Six Tax-Saving Tips Freelancers Should Know
Jennifer Chin is a Community Manager at SL Tax Centers (financial future planning) in New York City. She’s managed social media and marketing efforts for top companies in a number of industries and has extensive experience in finance.
If you’re running a freelance gig or a side hustle, you’re not alone. More and more people are realizing that a side job can be a great way to boost your income, and “gig economy” apps like Uber and Lyft make it easy to take on the extra hours. But reality comes crashing in at the beginning of the year when 1099 forms start hitting the mail, and you realize just how much you’ll owe on that "extra" money you've been bringing in.
Fortunately, there's some good news for freelancers and independent contractors. There are tax laws you can take advantage of to reduce what you owe the government.
Here are six tips you can use to pay fewer taxes and keep more of your earnings.
1 - Adjust your Withholdings (If You’re Freelancing On The Side)
Federal tax deductions taken from your "regular" paycheck don’t factor in the income you make apart from your salary. To make sure you’re paying enough throughout the year, use the withholding calculator on the IRS website and file a new W-4 form with your employer. This won't actually reduce the amount of taxes you owe, but it will save you from being hit with a huge bill at filing time.
This is mostly relevant to freelancers who moonlight on the side. Check and adjust your withholdings, because you won’t have an employer doing it for you.
It can also save you from having to make estimated quarterly payments, which you're required to do if you expect to owe over $1,000 when taxes are due. If you're withholding the correct amount, you won't have to worry about making quarterly payments or getting dinged for penalties and interest.
2 - Take the Home Office Deduction
If you have a dedicated space in your home that you use for getting freelancing work done—and that means an actual home office or workspace, not just a living room that you happen to do work in sometimes—you can take a deduction of $5 per square foot of the space, up to a maximum of $1,500. Most freelancers don't have a commercial office, so your home office can be a tax deduction—as long as it's not just your kitchen table. Make sure you know the rules about what you can legitimately claim as a home office and follow them carefully. For example, to claim your home office, the space must be used only for work.
Home office deductions can be a red flag for the IRS, so be sure to follow the rules and keep detailed records in order to back up your claims.
3 - Deduct your Business-Related Expenses
As a freelancer or contractor, you're effectively running your own business. As such, you can deduct the costs of running and operating your business, finding new clients, and traveling for business-related reasons. For new freelancers, changing your mindset from employee to business owner is a big move. But it’s an important one, and a key way to make sure you’re getting the proper deductions on your taxes.
For example, you can take a standard deduction for the mileage you run up on your personal vehicle (Uber and Lyft drivers, take note). Licensing, registration fees, advertising, and equipment are a few other things you might have spent money on as part of maintaining your side career. Keep your receipts and deduct any legitimate expenses you can.
4 - Set Yourself Up as a Business
Recent changes to the tax code will allow "pass-through" companies (companies which pass profits directly to the owner as personal income) to shave as much as 20% off their taxable earnings. Entities that qualify as pass-through businesses include sole proprietorships, partnerships, S corporations, limited liability companies (LLCs), and limited liability partnerships (LLPs).
If you're making a lot of money as a freelance worker, you want to consider taking the time to register as a pass-through business in order to take advantage of these potential savings. Most freelancers will want to set up shop as an LLC or a sole proprietorship—but the laws for doing this are different in each state, so do your research and consult with an expert to make sure you register your business correctly.
5 - Contribute to a Retirement Account
Do you have a traditional IRA (Individual Retirement Arrangement)? If so, consider funneling as much of your side gig income into it as you can before the tax deadline. Every dollar you put in reduces your taxable income (though there’s a maximum amount you can contribute to your account each year).
Putting money into your IRA can drop you into a lower tax bracket and greatly reduce the percentage you have to pay the Feds. Best of all, you'll get that money back when you retire. If you already have an IRA account through your full-time employer, it should be easy to increase your contributions with money from your side hustle. If you don’t have an existing IRA account, the easiest way to set one up is to schedule time with an expert. There are many different types of IRA accounts, and your accountant will help make sure you set up the right type of IRA to maximize your future savings.
6 - Consult the Professionals
Anytime you have a complicated tax situation—and when you start getting 1099 forms and have to think about filing a Schedule C, things are starting to get complicated—it's a good idea to take the time to talk to a real, knowledgeable tax professional who can give you sound and specific advice about your particular tax situation. A professional advisor can help you devise a strategy not just for filing time, but for the entire tax year. Plus you’ll have one less thing to manage since your accountant will handle the actual work of filing on your behalf.
When it comes to making sure you're getting every deduction you can and making the smartest choices for you and your money, nothing beats having a qualified accountant on your side.
General tax tips can help you file correctly and save money when you're doing your own taxes. However, there's no substitute for having somebody who really knows the ins and outs of the tax code taking a look at your forms and giving you professional guidance. Don't let a lack of knowledge about income taxes cost you one cent more of your hard-earned side gig money than you're legally required to pay.