The Difference Between Strategic Tax Planning, Tax Avoidance And Tax Evasion

by Enid Kathambi, Money Columnist

Published in Money and Finance on 17th February, 2020

Lowering a tax liability or having zero taxes to pay is everyone's goal, whether you are doing it for your business or your individual taxes. But it is a thin and sticky line between strategic tax planning, tax avoidance, and tax evasion.

Strategic Tax Planning

Strategic tax planning is all about planning your finances from the tax perspective. Even if you love surprises, surprise audits and claims from the IRS would probably give you a mild heart attack.

tax planning

Tax planning is an essential part of financial planning for individuals and businesses. It will help you plan your taxes efficiently. Some of the tax planning strategies to consider include:

  • Types of retirement plans to use for your retirement savings
  • The size of your income and when to receive it
  • The timing of your expenses and other major purchases
  • The type of investments you make and when to make these investments

However, not everyone is knowledgeable about taxes and strategic planning of taxes. Tax planning software, tax plan calculator, and tax advisors are always available to help you plan your taxes accordingly.

Tax avoidance

Technically, tax avoidance is not illegal. Its definition and consequences can be quite confusing, which makes it a "grey area" between strategic tax planning and tax evasion.

Tax avoidance occurs when one takes advantage of legal ways in the law to lower their tax liability or avoid paying any taxes.

tax avoidance

By considering tax deductions, saving using retirement plans, and using tax credits, you can lower your tax liability. With these methods, you might end up not paying any tax at all, and even claiming a tax credit.

If you take certain tax deductions like healthcare deductions, you need to be in a position to provide receipts for these expenses in case the IRS asks for proof. As long as you have evidence, then you can rest easy knowing you did not claim a non-existent expense.

Tax evasion

On the other hand, tax evasion is illegal and could land you in jail or with a hefty fine from the IRS. Also, tax evasion puts you on the radar of the IRS, which will attract the risk of more audits into your financials.

tax evasion

Tax evasion occurs when one fails to report their real income, fails to file and pay taxes, or reports expenses that the IRS does not allow.

Some examples of tax evasion include:

  • Failing to report the sources of an income
  • Understating your income
  • Paying less tax to the IRS than you actually owe deliberately
  • Providing false information about your business's income and expenses
  • Not filing or filing incorrect payroll taxes
  • Maintaining 2 sets of books
  • Overstating your expenses
  • Using personal expenses to claim as a business expense
  • Making false of wrong entries in your accounting books
  • Reporting false expenses for tax deduction purposes
  • Failure to withhold employment taxes or withholding and failing to pay the tax to the IRS
  • Using cash to pay employees and failing to report all the cash paid in full or reporting it partially

Hopefully, you now have a more clear sense of what strategic tax planning, tax avoidance, and tax evasion are.

As you prepare to file your year-end taxes this tax season, you can use all legal ways available to avoid paying taxes but do not cross over to the red line of tax evasion. Also, remember to start strategic tax planning for the next tax season- it is never too early to plan your taxes early.

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