As a freelancer or independent contractor, understanding how to navigate your taxes is a crucial aspect of running a business. Failure to comply with the special self-employment guidelines could result in penalities, audits, and further action against you (and your business) by the IRS.
We chatted with Dr. Roshawnna Novellus, business strategist, author, and founder of Novellus Financial, a firm that provides high level financial guidance and business strategy planning to businesses, and New Adams, a NY-based tax accountant whose resume includes stints at top firms Deloitte and UBS. These seasoned tax experts helped us understand how freelancers, in particular, can optimize their deductions and get out of tax season with their heads above water.
Here are five tax tips our experts recommended that freelancers keep in mind as we approach the April 18th, 2016 filing deadline.
1. You cannot avoid self-employment tax.
According to Novellus, “If you are self- employed, all income is subject to both income tax and self employment tax. As such, remember to add an additional 15.3 percent to all profit when estimating your tax liability.”
Think you can escape it? Think again. Adams notes, “If your freelance business generates over $400 annually, you have to pay self- employment tax.” Therefore, she urges contract employees to keep clients on track with providing you with a 1099 form. Remember, if you make $600 or more from any one client you must report the income on your personal tax return.
2. Understand what kind of return you need to file.
As a freelancer, it’s important to know your business structure in order to best understand your tax filing requirements. Many times, freelancers don’t always understand that corporate tax returns and self-employment tax returns have different filing dates and tax forms. According to Novellus, “Companies that formed as a C Corporation, S Corporation, Partnership and/or Multi-Member LLC must file their tax returns by March 15 every year.” Also, each entity has a different tax form.
3. Know what tax deductions you can take.
As a freelancer, deductions can be your best friend and help offset your amount of total taxable income. As a freelancer, you are able to take more deductions than those who are aren’t. Deductible expenses include (with strict guidlelines): home office costs, domain and web hosting, telephone/internet costs, auto expenses, advertising, professional fees, retirement contributions, and more. Novellus states, “Freelancers, can deduct 50% of meal and entertainment expenses for work-related activities [and] can take the full deduction for insurance and education which is not allowed for those who are employees.” Additionally, Adams recommends that freelancers, especially, take advantage of startup cost deductions — something first-time freelancers often miss.
4. Commit to solid record keeping.
As a freelancer, you should be keeping track of all business income and expenses and keep all documentations for up to three years, as recommended by the federal government. If you aren’t good with paper documentation, try using different mobile apps that allow you to keep track of receipts and expenses. By becoming diligent about your expenses, you’ll be able to “understand how you spend your money and it also helps you with planning for the future, ” according to Novellus.
5. Be honest about your income.
With self-employment tax being so high, it can be tempting to lie about how much you really make. Many freelancers, Novellus says, may not know that “the IRS compares your income and expenses to industry standards. If you have way more deductions than are reasonable, you are much more likely to be audited.”
Rana Campbell is a marketing/branding professional who helps creatives & lifestyle entrepreneurs build brands that SHINE in the business world. She is also the host of the Dreams in Drive: No Parking Podcast. Connect with her on Twitter, Instagram, Linkedin, or ranacampbell.com.