Should I Work With a Tax Professional?

presented by Dennis Doble

Should I Work With a Tax Professional?

In short, yes, you should. Most DLFG clients are high earners, professionals with complex compensation packages, or small business owners filing multiple returns. For them, it is likely a wise decision to work with a tax professional, given the complexity of their situation. Working with a CPA can provide valuable insight and tax minimization strategies. Making sense of all the different forms is tough enough even with TurboTax available to us all, never mind trying to stay informed of the different tax-saving strategies. In the last week of 2021, our own firm’s CPA educated us on how a simple change in the method we pay our state taxes could result in significant tax savings, allowing us to deduct well beyond the $10k SALT limits in place. Without a CPA watching over our situation and advising us, we would not have been aware of this valuable information.

Be mindful that not all tax professionals are the same. Some are tax preparers only, churning out 500+ returns every April and sometimes do not have the time to consult on different strategies. Many more tax professionals are partners in your financial journey, able to advise on different strategies, saving you thousands of dollars over the long-term. Many CPAs are our clients’ most trusted financial ally.

Financial advisors often work effectively with a core group of 2-3 CPAs for their mutual clients’ benefit. This team environment is always a great case for you. Maybe the CPA forgot that a client qualifies for a tax credit for starting a new retirement plan or forgot that state taxes can be paid through the business, avoiding the $10k federal SALT limit on deductions. These are big things that can save you a lot of money in the long run. When clients go it alone on the tax front, costly mistakes are common. Here are just a handful I have witnessed in the last 12 months:

  • Mis-timed 529 contribution and withdrawals: 529s get coded as a non-qualified withdrawal with taxes and penalties on the earnings if the withdrawal and tuition paid don’t match up in the fiscal year ending Dec 31. For instance, you paid $40k for your daughter’s tuition directly to her school on Dec 28 out of your bank yet initiated the withdrawal from your 529 to your bank on Jan 2 the following year. To the IRS, that following year will look like you took an additional $40k beyond the allowable, qualified amount, possibly resulting in thousands of dollars in unnecessary penalties and taxes. Accountants can help sidestep these mistakes and potentially correct past errors.
  • Paying taxes on a Backdoor Roth conversion: All too often, I have seen individuals assume that the $14,000 IRA 1099 received is a taxable conversion, when it was two non-deductible contributions to an IRA immediately converted to a Roth IRA because a client did not maintain any other IRAs. This should result in $0 tax liability, yet if one assumes the 1099 is correct and does not dig, then one’s 40% total tax bracket could unnecessarily subject them to a $5,600 tax bill. Yuck.
  • Forgetting about the step-up in cost basis on inherited assets: When you inherit an asset, you get a step-up in cost basis to the current market value as of the date of death, so you can sell the asset immediately with no capital gains. DIYers oftentimes do not realize this. While financial advisors are typically the first line of defense on this, CPAs can be a great help as well.

Example: I inherit 1,000 shares of AAPL on 1/5/2022 ($176/share) with a previous cost basis of $25/share, or $25,000. I sell the asset the day I inherit it without stepping up the basis at my custodian (NFS for example). On paper, it will look like your capital gain is $151,000. Assuming a MA and Fed tax of 28.8%, you may think you owe $43,488 in the form of a capital gain. In fact, it should be $0.

CPAs that are not willing to be responsive to questions and be part of your financial planning team should be avoided. Tax planning is a critical component of financial management. A good taxation strategy will be well-coordinated with your overall plans for business, investments, risk, and financial independence. Although financial professionals can perform many tax planning functions, some activities require the expertise of an accountant or a CPA. So start the conversation now if you get overwhelmed with taxes or feel you are at risk for a tax mistake. Most CPAs will not be able to engage you during the first quarter of the year because they are already limited on time, yet it makes sense to have a person or two in mind. Reach out to them as soon as you are able. While we all want to pay our fair share of taxes, we don’t want to give the government a tip.

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