You have income from multiple sources, and you’re responsible for keeping tabs on all of it — even if the client you’ve worked for doesn’t send you a 1099. You have to know what to deduct and pony up money while everyone else seems to be getting refunds.
On the flip side, you’re probably “living the dream” if you’re self-employed, so it’s a small — okay, maybe large — price to pay for that kind of professional fulfillment. You may never be excited about tax season, but here are a few tips to get you prepared for it.
Self-employed people pay income tax and the self-employment tax, which is equivalent to the Social Security and Medicare taxes that are withheld from the paychecks of those working traditional jobs. In a traditional job, you would split the cost of Social Security and Medicare taxes with your employer, but as a freelancer, you must pay both portions. The good thing is that you pay taxes on your income after, or net of, expenses, which employees with W-2 status cannot do.
It is critical to know what you can legitimately deduct. If you go overboard deducting too many expenses, that can raise a red flag with the IRS — possibly leading to an audit — and that could make doing taxes seem like a walk on the beach.
To file your annual income tax return, you will need to use the Schedule SE (Form 1040). You also have to file either a Schedule C or Schedule C-EZ. According to the IRS, small businesses and statutory employees with less than $5,000 in expenses may be able to file Schedule C-EZ instead of Schedule C. If you do taxes on your own, make sure you have the correct form. Check out www.irs.gov for more resources.
Not using an accountant to file your taxes? You may want to consider it. With an accountant, you not only have someone to do your taxes for you, but you can glean valuable insights on deductions and how to run your business so tax time is easier. Even if the accountant does not compute your taxes, it’s wise to hire one to consult you on your individual business, whether you run a sole proprietorship, an LLC or another format.
Because most freelancers may wind up owing the government money, they can ease the financial burden by making quarterly payments. If you haven’t done this before, you can use Form 1040-ES (Estimated Tax for Individuals) to see if you have to file quarterly taxes. In general, if you earn enough consistently, you can estimate how much you’ll owe and make payments quarterly (the first one is due April 15).
Even if you end up overpaying, you can obtain a refund or put that money toward tax payments due the following year. Wind up not doing quarterly payments when you should and the IRS may impose a penalty — another reason to pay up earlier. It also spreads the year’s payments four ways, so it may not be as much of a drain on your bank account. Savvy freelancers put money aside as it comes in to pay taxes.
The tax process isn’t fun, but having a basic knowledge of your responsibilities — not only as a talented professional, but as a businessperson, too — can make it more bearable. Once you get things down pat, you can focus on other aspects of your business that make you feel warm and fuzzy. (And it’s all right if filing taxes is never one of them!)
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