Market Overview

Minimizing income tax’s hidden cost: the time it takes to file

We can discuss – or even argue passionately – about the proper scope, size and role of government. But you can’t look at Somalia or Haiti or Yemen or some other failed state and say, “Wow! Those folks really have their act together!” Is government a “necessary evil”? Let’s leave the “evil” part to philosophers, but it is certainly necessary. And that means it’s incumbent on all of us to support it, even if grudgingly, with taxes.

And again, there is a debate to be had about how to best levy those taxes. Congress’s Ways and Means Committee is currently looking at abolishing the Internal Revenue Service and replacing the income tax with a national sales tax. That’s probably going nowhere. Monetarist icon Milton Friedman called a tax on land “the least-bad tax” in this video. That’s quite an endorsement from a freshwater economist, but it likewise went nowhere. (Economists in general eschew the conservative and liberal labels. American economists are said to be of two species: freshwater – from the heartland – and saltwater – from the coasts.)

For the foreseeable future, it looks like we’re stuck with the income tax. And as long as we want such perceived virtues as home ownership, securities investment, marriage, saving for college or retirement, forming a business, and so on to be rewarded with preferential tax treatment, we’re stuck with stacks upon stacks of tax forms to prove that we qualify. And because most of us don’t think working through tax forms is much fun, we’re stuck with hiring accountants to do that for us.

Maybe the best we can do at present is figure out how to streamline and optimize the taxation process. How can we get our taxes done as simply and easily as we can? What do our accountants need from us? What is excess information that they have to sort through, wasting their time and our money? And how do we get our tax refunds – if any – back as quickly as possible?

Just answer the questions

No matter how complicated your taxes – how many forms and schedules get paperclipped together – completing your tax return is really just a matter of filling in the blanks. Anything you tell your accountant that doesn’t help to fill in a blank is likely a waste of everyone’s effort.

A good accounting firm will provide you – ideally by electronic media but at least by First Class mail – a checklist or worksheet to help you focus on what’s really important. You should have gotten it by the end of January or in early February.

It’ll ask you about whether certain special events happened in your life during the preceding year. Did someone in your family need long-term care? Did you make tax-advantaged contributions to a college fund? Did you convert your traditional IRA to a Roth? Did you get married? Did you have another child, or did one of your children become independent? Did you change addresses? Questions like that.

The checklist will also include a litany of questions about:

• healthcare coverage,
• income,
• purchases, sales and debt,
• retirement plans,
• education,
• itemized deductions such as charitable donations, business expenses or disaster losses, and
• miscellaneous items such as foreign investments, household employees or cryptocurrency investment.

It’s best to just answer the questions your accountant asked. There’s no need to go into gnat’s-eye detail about every $20 cash withdrawal you made from the ATM – and definitely no need to submit every receipt. It’s still good practice to save receipts in case the IRS comes knocking; still, your accountant probably doesn’t want to see them. It’s just too much detail that’s usually not necessary.

A good-faith estimate of your medical expenses, charitable donations, moving expenses and most business expenses including use of your home and vehicle always helps. But it’s got to be close enough that both you and your tax preparer are comfortable putting your names to it. Often it’s helpful to look to your previous years’ returns for guidance.

What you absolutely will need to provide to your accountant, though, is documentation of your income. These generally take the form of W-2s from companies that withhold taxes from paychecks and 1099s for companies that don’t. W-2s are generally from companies which formally employ you. If you hit it big at a casino, you might also receive a W-2G. Different flavors of 1099s reflect different forms of payment from gig-economy income, interest, dividends, retirement plans, sales of stock, sales of real estate and government benefits.

You might also need to provide a Form 1098 to deduct interest paid on mortgages or student loans.

These W-2s, 1099s and 1098s usually all arrive in your mailbox or email inbox by the end of January. Since taxes aren’t due until April, you should be good. So, take a little time to get it all squared away, but don’t take too much time. Try to have it all submitted to your accountant by the end of February to avoid the crunch.

Taxing times

You’re probably aware of artificial intelligences that can write a college essay on Franz Kafka or paint an Impressionist portrait of your dog. There will come a day when one can do your taxes. Until that day comes, though, your green-eyeshaded accountants will be taking care of this task.

Accountants do have technological help, of course. There are many brands of tax software programs on the market, and every accounting firm has its preference. These packages are very helpful, but there’s still the need for a human touch. Software isn’t going to call you up and ask if you might be missing $150 in deductions because that’s all you need to drop down to a lower tax bracket. While a lot of tax prep work is an exercise in data entry, there is so much more to it.

The software must of course be mathematically accurate and updated regularly to comply with the ever-changing tax code. That is the most important thing, but not the only important thing. Protecting your personal data is also crucial. This data is inside your accounting firm’s internal network, so that must be hardened against encroachment. But data must also be guarded when it’s in transit. You don’t want to be swapping files via email, which is notoriously risky from a cyber security point of view. Ideally, you want your tax return posted to a secure repository online, downloadable to you alone.

Whatever tax software your accountant uses, it has a gateway to the IRS. You should use it. By giving your accountant permission to electronically file, then providing your bank’s routing and account numbers, you speed up processing of your refund from one or two weeks to as little as one or two days.

Net profits

All this advice is just for guidance. The connection between a taxpayer and an accountant is about as personal a professional relationship as you can have without a stethoscope. Take the time to ask your accountant how to proceed with getting your taxes in order. And listen to your accountant’s advice when it comes to selecting a financial advisor who can maximize your tax-shielded dividend and interest income.