When it comes to creating value for clients, tax planning is one of the most important aspects of the financial advisor’s practice. Whether it’s helping clients maximize their refund or minimize their tax liability, the right knowledge and skills can make a big difference. But the ambiguity around what constitutes “tax advice” and what doesn’t can often steer advisors away from engaging in meaningful conversations with their clients about taxes. After all, even a slight misstep could create additional legal liability for them and their firms.
The term “tax advice” is a broad and subjective term, encompassing anything from interpretations of IRS rules to actual recommendations for how a client should change their behavior in order to reduce their tax burden. Generally speaking, this type of advice is considered to be “practice before the IRS” (as opposed to the more specific activities that only attorneys, CPAs, and Enrolled Agents are allowed to do) and thus requires an attorney, CPA, or EA to provide it. The broader definition of tax advice also encompasses the use of certain types of entities or transactions for the purpose of avoiding taxes, and recommending this to clients is almost always a clear violation of IRS rules.
More benign forms of tax advice, however, are often simply referred to as “tax planning.” Such strategies usually involve a mix of both the timing and nature of income recognition and optimization, with the overall aim of minimizing the client’s tax liability through a combination of deductions and credits. Examples of this include Roth conversions, utilizing qualified charitable distributions (QCDs), and optimizing the timing of capital gains and losses.
As an increasingly important area of the financial advisor’s practice, these types of strategies are becoming more commonplace. This, combined with powerful new software tools that can create detailed analysis and projections of tax strategies, is making it more feasible than ever for advisors to engage in this type of conversation with their clients. But the more detailed the analysis, the more difficult it can become for an advisor to avoid crossing the line into the realm of tax advice – which is why it’s so important to understand the distinction between tax planning and making a recommendation.Steuerberatung
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