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Want to cut your tax bill, legally? Pre-pay agency expenses!

Written by: Karl Sakas

In business school, our business law professor asked the class, “How many legal deductions are you permitted to take?” Answer: “All of them.”

Are you worried about a big year-end tax bill? I’ve got good news.

If you have extra money in the bank—and you do accounting on a Cash basis—you can likely cut your tax bill by pre-paying next year’s expenses.

Let’s look at some U.S.-oriented examples. Disclaimer: Ask your accountant to confirm that this applies to your situation.

Things You Might Pre-Pay

Here are some examples of things you can pre-pay this year to potentially cut your next tax bill:

  1. Rent
  2. Insurance premiums
  3. Accounting fees
  4. Consulting fees
  5. Office supplies (stock up!)

You can also potentially take a deduction this year for new computers, phones, etc.—but double-check with your accountant first, since you may need to deduct capital equipment over a longer period of time.

Caveats

This is based on U.S. tax law—things will vary if you’re outside the United States. Here are some additional caveats:

  1. If you do accounting on an Accrual basis, this tip likely won’t apply. More on that here.
  2. Don’t dip into your cash reserves to pre-pay expenses. You need the cash more than the deduction.
  3. Don’t spend money for the sake of spending money—spend it on things you need. And be realistic—buy 1-2 toner cartridges, not 20.
  4. Don’t pre-pay more than 12 months of expenses. This can trigger the “12-month rule” that reduces deductibility.
  5. This doesn’t erase your tax liability next year—but it lets you defer taxes to a year from now.

Schedule a Meeting with Your Accountant

Ask your accountant about your specific situation—you should be meeting with them before year-end anyway.

If they confirm you can use pre-paid expenses to cut this year’s tax bill, ask them for a projected estimate of your taxes to help you decide how much to pre-pay. Based on that number, you can decide what to pre-pay.

You’ll need to make some prioritization decisions; just because you can pre-pay doesn’t mean you should. You’ll still want a healthy cash reserve, and you shouldn’t use potential tax savings to pre-pay for things you don’t actually need. (When I pre-pay, I focus on things I know I’ll be using next year.)

Question: What might you do today to cut your tax bill in the future?

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