How do you do tax planning, how is tax calculated?

What is Tax Efficiency?

Tax efficiency refers to the practice of reducing the tax payable to the minimum possible level legally by limiting inefficient financial practices that result in a higher tax charge, before we can further understand tax planning and tax efficiency, we need to understand the difference between tax avoidance and tax evasion. Although these two terms may seem similar, they are legally two very different terms.

What is Tax Avoidance?

Tax avoidance refers to the legal and lawful reduction in payable tax by utilizing all the options that have been provided to taxpayers by the law of the land. Tax accountants are professionals who are well versed in the relevant laws and they can help any individual or business, plan their financial activity and expenditures in such a manner that they become liable to the least amount of tax possible.

For instance, every tax regime has a list of registered non-profit organizations and charities. Donations to such non-profit organizations is admissible for tax purposes, whereas donations to other non- profit organizations may not be admissible for tax purposes, thereby resulting in a higher tax charge.

Similarly, there are other areas such as import of certain machinery and products that may carry reduced taxes or tax holidays. Tax accountants can identify these areas for their clients so that the clients can be saved from paying a higher amount of tax. Tax avoidance is therefore a legal way to reduce the amount of tax payable under the tax code of any country.

What is Tax Evasion?

Tax evasion refers to using illegal means to avoid or reduce the tax payable. It includes actions such as misrepresentation or misreporting income in order to reduce the amount of tax payable fraudulently.

It is important to understand that methods of tax avoidance are written in the tax code whereas tax evasion is illegal under the tax code. Tax efficiency therefore refers to using the tax code in order to plan the financial activity of a person or a business in such a manner that the tax payable by that person or business is as low as possible.

Efficient tax planning can be done by a professional tax accountant who understands the tax code and relevant laws. Tax planning covers a wide range of areas related to the financial activity on an entity. The areas covered include:

• Income
• Timing of income (for e.g. during tax break season)
• size, method and timing of purchases and sales
• Import of selected items specified as having low or zero tax
• Size, nature, and timing of other expenditures
• Type of retirement plans

How is Tax calculated?

Although the complete process of tax calculation is quite complex and detailed, in simple terms it can be said that the legally earned income of a person or a business is considered and then the admissible tax deductions are deducted from the income and whatever remains, is then charged according to the rate applicable on the person or business.

Tax can be calculated by a qualified professional, by the taxpayer themselves or through any tax calculation app. The relevant tax authorities of any country however have the final word on the amount of tax chargeable on a person or a business.