If you’re an independent contractor or a freelancer, understanding how to file taxes is critical. If you don’t, you could face substantial financial consequences in the form of back taxes or even legal action.
That might be dramatic, but there’s some truth to it. Luckily, US News My Money offers a few tips to help you learn how to file taxes as a self-employed worker.
Find Out If You Have To Pay Taxes In The First Place
If you have income, the IRS wants its cut. But there are some exceptions, eFile.com noted. “You must file a tax return if your total self-employment income is at least $400.”
“This is different compared to if you are an employee and these payments are automatically withheld from your pay and paid for you by your employer,” it added.
Chances are, though, if you’re self-employed and earned a sustainable income, you’ll have to pay up. That means you’ll have to decide whether you want to learn how to file your taxes on your own or hire a preparation service.
Filing as a self-employed individual by yourself can get complicated, especially when you consider the number of deductions and details involved.
The cost of working with a professional depends, but data from the National Society of Accountants’ 2018-2019 Income and Fees Survey found that the average freelancer pays $188 for assistance filing a Form 1040 and a state return without itemized deductions. If you do claim deductions, that can increase to $294.
Gather Your Documents
“Before you start filing, be sure to gather and report all sources of income, including all 1099 forms. If you are self-employed, whether working as a freelancer or working a side gig, you will need to look out for the new Form 1099-NEC starting the end of January that will be issued if you were paid $600 or more,” certified public accountant, US News My Money contributor, and Turbo Tax spokesperson Lisa Greene-Lewis said.
Form 1099-NEC is a crucial thing to remember, particularly for those accustomed to filing a Form 1099-MISC.
“The Form 1099-NEC replaces the Form 1099-MISC that previously reported self-employment income,” Greene-Lewis noted. “Form 1099-MISC is still around but will not be used to report self-employment income. You also may receive a 1099-K form if you accept payment through a third-party provider, have more than 200 transactions and make more than $20,000.”
She added that while no one sends you these forms, “it’s important to keep careful records and track all income under these limits as you still need to report all income regardless of whether or not you received the forms.”
You might have your work cut out by gathering the necessary documents, including records of work expenses like mileage, printer ink, or even medical expenses.
“And don’t forget about the home office deduction, which is one of the biggest deductions for the self-employed since it is a portion of your expenses like your rent, mortgage interest, property taxes and utilities based on the percentage of space you use for you home office,” Green-Lewis pointed out.
And, as Joshua Zimmelman, the president of Westwood Tax & Consulting LLC, told US News My Money, “Employees have limits to what expenses they can deduct, but if you’re an independent contractor or freelancer, you can deduct many business expenses. For a Lyft or Uber driver, for example, this might include gas, parking fees, car maintenance and repairs, auto insurance and any other expenses you incur for your car.”
Alternatively, you might have far fewer deductions if you primarily only use your laptop at home. Zimmerman noted that employees might face tighter restrictions on this year’s tax deductions. For instance, if your employer transitioned to remote work in the middle of 2020, you’re unlikely to qualify for a slew of tax writeoffs.
“Employees cannot deduct any expenses associated with employment,” Zimmelman explained. “Despite many people working from home in 2020, that new desk chair or curved flat screen monitor cannot be written off if you’re an employee. We’ve gotten many questions about this, followed by disappointment when I share the regulations.”
Prepare For Next Tax Season
One of the best ways to give your future self a break is by preparing early for the next tax season. As in, now.
“Each year, a few new clients come to me with issues from self-employment. The most common is failure to pay estimated taxes,” Beth Logan, Kozlog Tax Advisors owner and enrolled agent, remarked.
She continued, “Self-employed people must pay their federal income tax, their state income tax – if any – and their Social Security and Medicare contributions. Self-employed people are both the employer and the employee. Therefore, they pay both halves of the Social Security and Medicare contributions (called self-employed tax or SE tax), which totals 15.3% of profits up to the Social Security income limit.”
All of this can lead to a surprisingly large tax bill. “When you include SE tax, federal income tax and state income tax, the amount owed can easily be 25% to 40%, even for middle-income Americans,” Logan added.
She explained that self-employed workers should pay their taxes every quarter (April 15, June 15, September 15, and January 15) depending on their income for those three months.
- Williams, Geoff. “How to File Taxes When You Are Self-Employed.” U.S. News & World Report, U.S. News & World Report, 11 Jan. 2021, money.usnews.com/money/personal-finance/taxes/articles/how-to-file-taxes-when-you-are-self-employed.