What is tax planning, tax avoidance and tax evasion?

Tax planning, tax avoidance and tax evasion are often referred to side by side. Let's examine what tax planning, tax avoidance and tax evasion are.

What is tax planning?

Tax planning is usually done with the purpose of reducing the taxpayer's tax liability. Tax planning is often used for estate planning purposes. In some cases, tax planning is used for asset protection. There are three goals that each tax planning strategy strives to achieve in order to reduce the tax bill:

1. to reduce the tax liability (pay less now)
2. to defer the tax liability (pay later, pay nothing now)
3. to eliminate the tax liability altogether (pay no tax)

Of course the last option is the most desirable and you will see many tax planners pitching ways to eliminate and pay no taxes. Beware of most of these tax elimination schemes. There are legal tax planning and illegal tax planning.

What is the difference between tax avoidance and tax evasion?

People often get tax avoidance and tax evasion mixed up. Legally, there are differences between tax avoidance, tax evasion and even tax planning. Tax avoidance strategies are designed to reduce tax liabilities through legal techniques. However, there is a large number of illegal tax avoidance strategies but there are also legal strategies of tax avoidance.

In contrast however, tax evasion strategies are used to reduce tax liabilities with the goal of totally eliminating tax liabilities. Unlike tax evasion, the term tax evasion implies the use of illegal strategies and fraud. To this end, taxpayers should stay away from tax evasion schemes but can use legal tax planning for tax avoidance. It is perfectly legal to plan your finances so that you avoid being taxed heavily.