Freelance Taxes 101

It’s no secret that freelance work is becoming the new norm for many Americans in today’s economy. Nearly half of all millennials freelance, and that percentage is predicted to grow in the coming years. In fact, freelancers are expected to make up the majority of the U.S. workforce within the next decade.(1)

And why not? As a freelancer, you choose your work hours, what projects to take on, and where you work. You get to call the shots!

But the most common reason people get into freelancing is the chance to earn some extra money and supplement their primary income.(2) And let’s be honest, who doesn’t want more cash in their pockets?

However, chances are, your side hustle will impact how you file your taxes. If you’re not careful, you could lose a large chunk of your freelance income to an enormous tax bill.

Tax Basics for Freelancers: What Is the Self-Employment Tax?

If you earn $400 or more from freelance work in any given year, you are responsible for paying the self-employment tax of 15.3%. This tax solely exists to cover your Social Security and Medicare taxes.(3)

Workers who are not self-employed have their Social Security and Medicare taxes taken out of their paychecks automatically—and their employers cover half of those taxes. As a freelancer, however, you’re considered both an employee and an employer. That’s why the IRS wants you to cover the whole 15.3%.

The Schedule SE tax form helps you calculate your self-employment tax, which you’ll then report on your standard Form 1040. You might also be able to deduct the employer-equivalent portion (50%) of your self-employment tax on your 1040.

Remember, the self-employment tax is in addition to your regular income tax rate. That’s why Dave recommends you save as you go by setting aside around 35–40% of every freelance check you receive in a separate savings account to cover your income and self-employment taxes so you don’t come up short at tax time.

Full-Time Versus Part-Time Freelancing: Calculating Estimated Taxes

Since taxes from your freelance income aren’t being withheld throughout the year, there’s a good chance you’ll need to estimate your taxes for the upcoming year and pay the IRS on a quarterly basis. This is estimated tax, which is typically paid every three months in four equal installments. So how do you know if you need to do this or not?

According to the IRS, you should pay taxes quarterly if you expect to owe at least $1,000 in taxes this year.(4) If you rely on freelance work for most or all of your income throughout the year, you are likely responsible for estimated tax payments.

If you are freelancing on the side in addition to a job that pays you a salary, whether or not you should make quarterly payments depends on how much you’ll make during the year. Nearly half of all freelancers make $2,000 or less each year in freelance income.(5) If you fall within that group, you can probably skip estimated tax payments and just report your freelance income when you file your tax return.

However, if it’s looking like you’ll owe $1,000 or more in taxes, Form 1040-ES can help you approximate how much you’ll make during the year and then determine your estimated taxes based on your projected earnings.

If you underpay your estimated tax—these are estimates, after all—you’ll have to pay the remaining taxes when you file your annual tax return. (And no, though you freelance, you don’t get a free pass. You still have to file your annual tax return by April 15 like everyone else.) On the other hand, if you overpay your estimated tax, you’ll receive the excess amount back in the form of a tax refund. 

For estimated taxes, the year is divided into four payment periods with a specific payment deadline for each period:

• January 1–March 31 (Deadline: April 15)
• April 1–May 31 (Deadline: June 16)
• June 1–August 31 (Deadline: September 15)
• September 1–December 31 (Deadline: January 15 of the following year)

Connect with a licensed, trustworthy tax professional to find out if you need to pay estimated taxes.

Keeping Track of Your Freelance Income

As a freelancer, you should receive a 1099-MISC form—which summarizes any miscellaneous income you earned during the tax year—from each client who paid you over $600.

However, many clients now pay freelancers and contractors through PayPal or other online payment systems. If that’s the case, then you will probably receive a 1099-K form from your clients instead. But this form comes with an important caveat: Clients are not required to send you a 1099-K unless they pay you more than $20,000 or more than 200 times.

But just because you didn’t receive a 1099 from a client doesn’t mean you’re off the hook. You still need to report your earnings to the IRS on a Schedule C form.

A Schedule C tax form serves as the hub for all of your freelance income and expenses. First, you’ll report all the freelance income you earned during the tax year in Part I. This includes amounts already reported on the 1099 forms you received from clients and amounts not yet reported for the clients who didn’t send a 1099.

After that, you’ll list your expenses in Parts II–V to see if you can claim any deductions. If you had $5,000 or less in business expenses, the more simplified Schedule C-EZ might be best for you.

You will want to connect with a tax pro to make sure you are filling out the right forms.

Deductions Freelancers Can Claim: Using Tax Deductions to Cut Your Tax Bill

Tax deductions lower your taxable income, potentially reducing your tax bill and saving you hundreds of dollars in the process. And as a freelancer, you get to claim a bunch of them!

But many self-employed professionals aren’t taking advantage of tax deductions. In fact, 73% of freelancers don’t deduct any expenses at all.(6) That means some freelancers are paying more taxes than they have to!

As a freelancer, you can claim deductions on expenses that, according to the IRS, are "ordinary and necessary" for the operation of your 

business. But always keep in mind that when it comes to deducting expenses from your side hustle, you can’t mix business with pleasure! Your business expenses must be used exclusively for freelance work; trying to deduct travel expenses for your summer family vacation isn’t going to fly. (You may fly, but you won’t be deducting your flight costs on your taxes.)

Some of the most common deductions for freelancers include:

• Advertising and marketing
• Office supplies
• Computer equipment and software
• Travel and business meals
• Home office
• Utilities

Careful documentation and detailed bookkeeping–like saving all your original receipts and invoices—can help you prove that those expenses were vital to your business, which will save you money come tax season.

That might be easier said than done since one in four freelancers have trouble keeping track of expenses.(7) Don’t be one of these haphazard folks! Opening a separate checking account specifically for freelance work-related transactions is a good solution, helping you separate work expenses from personal ones.

There’s more good news for freelancers on the tax front. As a result of the recently passed tax reform legislation, most freelancers will get to deduct 20% from their freelance income—meaning they won’t pay taxes on that 20%. For example, if you made $5,000 from your photography side hustle this year, you can shave $1,000—or 20%—off your taxable income.

You might also want to check and see if you’re eligible for the Earned Income Tax Credit (or EITC/ETC)—a refundable credit that cuts taxes owed for workers with low to moderate income.

From Freelancer to Small Business Owner: Should I Incorporate My Side Hustle?

Is it time to upgrade your freelance work to a full-fledged business? That’s a question many freelancers ask, especially when their business starts gaining some serious momentum.

The truth is, there’s no tax advantage to incorporating. The only thing it will do is create a stand-alone entity that’s liable for its own actions. For example, if you have a lawn care side hustle that you incorporated into a small business and someone sues you for accidental damage caused during one of your jobs, they can’t come after your personal assets.

If you’re just starting out as a freelancer, you probably don’t need to worry about setting up a corporation. Dave says you only need to incorporate your side business or sole proprietorship if you meet one of the following conditions:

1. You are going into a business in which you are likely to be sued.
2. You have substantial personal assets you want to protect.
3. Your business has grown and is a target for lawsuits.

If you go that route, ask your tax advisor which business structure they would recommend. A qualified tax professional can help you make the right choice.

Find a Quality Tax Professional

Taxes are complicated enough as it is—and they only get more complex when you throw multiple streams of income into the mix. But the crazy thing is that only 20% of freelancers seek help from a tax professional for tax or bookkeeping advice.(8) One of the biggest mistakes you could make as a freelancer is to try and go it alone when tax season comes around.

Find a tax professional in your area today!

The content of this blog is from Dave Ramsey's July 2018 newsletter titled Freelance Taxes 101

TAX BENEFITS OF S-CORPORATIONS

As a small business owner, figuring out which form of business structure to use when you started was one of the most important decisions you had to make; however, it's always a good idea to periodically revisit that decision as your business grows. For example, as a sole proprietor, you must pay a self-employment tax rate of 15% in addition to your individual tax rate; however, if you were to revise your business structure to become a corporation and elect S-Corporation status you could take advantage of a lower tax rate.

WHAT IS AN S-CORPORATION?

An S-Corporation (or S-Corp) is a regular corporation whose owners elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax (and sometimes state) purposes. That is, an S-corporation is a corporation or a limited liability company that's made a Subchapter S election (so named after a chapter of the tax code). Rather than a business entity per se, it is a type of tax classification. Shareholders then report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates, which allows S-corporations to avoid double taxation on corporate income. S-corporations are, however, responsible for tax on certain built-in gains and passive income at the entity level.

To qualify for S-corporation status, the corporation must submit a Form 2553, Election by a Small Business Corporation to the IRS, signed by all the shareholders, and meet the following requirements:

• Be a domestic corporation
• Have only allowable shareholders. Shareholders may be individuals, certain trusts, and estates but may not be partnerships, corporations or non-resident alien shareholders.
• Have no more than 100 shareholders
• Have only one class of stock
• Not be an ineligible corporation (i.e. certain financial institutions, insurance companies, and domestic international sales corporations).

WHAT ARE THE TAX ADVANTAGES OF AN S-CORP?

Personal Income and Employment Tax Savings

S-corporation owners can choose to receive both a salary and dividend payments from the corporation (i.e., distributions from earnings and profits that pass through the corporation to you as an owner, not as an employee in compensation for your services). Dividends are taxed at a lower rate than self-employment income, which lowers taxable income. S-corp owners also save on Social Security and Medicare taxes because their salary is less than it would be if they were operating a sole proprietorship, for instance.

The split between salary and dividends must be "reasonable" in the eyes of the IRS, however, e.g., paying self-employment tax on 50% or less of profits or a salary that is in line with similar businesses. Furthermore, some S-corp owners may be able to take advantage of the 20% deductions for pass-through entities as well, thanks to tax reform.

Losses are Deductible

As a corporation, profits and losses are allocated between the owners based on the percentage of ownership or number of shares held. If the S-corporation loses money, these losses are deductible on the shareholder's individual tax return. For example, if you and another person are the owners and the corporation's losses amount to $20,000, each shareholder is able to take $10,000 as a deduction on their tax return.

No Corporate Income Tax

Although S-corps are corporations, there is no corporate income tax because business income is passed through to the owners instead of being taxed at the corporate rate, thereby avoiding the double taxation issue, which occurs when dividend income is taxed at both the corporate level and at the shareholder level.

Less Risk of Audit

In 2014, S-corps faced an audit risk of just 0.42% compared to Schedule C filers with gross receipts of $100,000 who faced an audit rate of 2.3%. While still low, individuals filing Schedule C (Profit or Loss from Business) are at higher risk of being audited due to IRS concerns about small business owners underreporting income or taking deductions they shouldn't be.

HELP IS JUST A PHONE CALL AWAY.

Whether you keep your existing structure or decide to change it to a different one, keep in mind that your decision should always be based on the specific needs and practices of the business. If you have any questions about electing S-Corporation status or are wondering whether it's time to choose a different business entity altogether, don't hesitate to call. 816-220-2001

Tax Advice For Families and Small Businesses in the Jackson county, MO Area Looking for Someone to Trust

Dear Friend,

I hope you’ll forgive me for being blunt.. I realize that you may not be used to seeing a tax professional talk like this. It’s not my intention to offend (I’m actually being very careful with my words–I am a tax professional, after all).

But I think you’ll agree that the times we’re currently facing require a little straight talk.

Here’s a certain truth: the State and Federal Government would love to have more of your hard-earned money in their accounts. Sure, even though it’s painful, none of us begrudge paying our legal and fair share of taxes. But the problem is that regular taxpayers, like you, are missing out on legal and safe deductions, to the tune of hundreds of millions of dollars in unclaimed refunds every year!

As a tax professional, it truly breaks my heart, knowing that just a few thousand, or even a few hundred bucks for us “regular guys” out of that vast pool of overcharging could make a world of difference–and they are just sitting there, unclaimed! And with the economy we’re facing now…it’s essential that the “right” professional handles your taxes and other financial matters.

You see, all tax professionals are not the same. From the “discount” chains (notice the quotes) to classic accounting firms, most fly through tax season in a disorganized mess–bleary-eyed and hopped-up on caffeine. It’s no wonder that they treat you like a number and lapse into excuses and tax-talk. (I told you that I would be blunt.)

I’ve put more of my thoughts on these matters in a Free Report for Individuals: “How to Beat the IRS Legally – Seven, Often Overlooked, Tax Strategies”.” 

Feel free to poke around our site and discover why I’ve been called “The Most Trusted Tax Professional in the Jackson county, MO Area.”

Warmly,

Mike Mead, EA, CTC

Are you guilty of these wrong financial mindsets?

Recent changes to moving, mileage and travel expenses

The Tax Cuts and Jobs Act includes changes to moving, mileage and travel expenses:
Move-related vehicle expense 

The new law suspends the deduction for tax years beginning after Dec. 31, 2017, through Jan. 1, 2026. During the suspension, no deduction is allowed for use of an auto as part of a move using the mileage rate listed in IRSNotice 2018-03.

This does not apply to members of the Armed Forces on active duty who move related to a permanent change of station.

Unreimbursed employee expenses

The Act also suspends all miscellaneous itemized deductions subject to the 2 percent of adjusted gross income floor. This change affects unreimbursed employee expenses such as uniforms, union dues and the deduction for business-related meals, entertainment and travel.
For additional guidance, see IRS Notice 2018-42.

Standard mileage rates for 2018
The standard mileage rates for the use of a car, van, pickup or panel truck for 2018 remain:

• 54.5 cents for every mile of business travel driven, a 1 cent increase from 2017.
• 18 cents per mile driven for medical purposes, a 1 cent increase from 2017.
• 14 cents per mile driven in service of charitable organizations, which is set by statute and remains unchanged.

Increased depreciation limits

The recent legislation also increases the depreciation limitations for passenger autos placed in service after Dec. 31, 2017, for purposes of computing the allowance under a fixed and variable rate plan. The maximum standard automobile cost may not exceed $50,000 for passenger automobiles, trucks and vans placed in service after Dec. 31, 2017. 

For additional details, see the May 25, 2018 IRS news release: Law change affects moving, mileage and travel expenses.

5 "Myths" about new tax act

(Column by Russ Wiles, Arizona Republic 6/2/18)

Most Americans are finished with income taxes for the year, having completed and filed their returns under the old rules.

But now, a bunch of new rules have taken effect, thanks to the reform legislation enacted late last year. Affected taxpayers would be wise to brush up on the details, as several key provisions already have become sources of potential confusion.

According to one survey released in April, 13 percent of consumers hadn't even heard of tax reform, and others were confused about the impact of key provisions — all of which make it harder to plan ahead.

Here are some of the myths and misconceptions of tax reform to which experts are pointing:

1. Myth: Tax reform will make filing returns a lot easier

Simplification was a major goal of tax reformers, and the new rules will make things easier for some filers. In particular, an estimated one in five taxpayers will switch from itemizing to taking the standard deduction. These people no longer will need to hang onto charitable-donation receipts and other paperwork.

However, not everyone will find tax-return filing to be any simpler, especially those who continue to itemize.

"Overall, the legislation was not simplifying," said Mark Luscombe, a tax analyst with Wolters Kluwer Tax & Accounting. "The only thing you can point to is the increased standard deduction."

In addition, there are some new provisions that taxpayers will need to learn about. Among them is a new 20-percent deduction, a tax-shaving break for people who own "pass-through businesses."

This provision "will require complex calculations that have never existed in the past," said LBMC, a Tennessee company that provides accounting and other services.

There's also a lingering lack of clarity regarding which business owners can take advantage of this deduction and other details, Luscombe said.

In addition, the reform law didn't simplify other potentially complex areas, such as sorting through capital gains/losses or assessing eligibility to make deductible contributions to Individual Retirement Accounts.

2. Misconception: Mortgage interest no longer is widely deductible.

Actually, mortgage interest will remain deductible for the majority of homeowners.

The new law did change the rules so that mortgage interest now only can be deducted on up to $750,000 in debt (on your primary home and one additional dwelling).

But that's still enough to cover loans on most U.S. homes, where the median price is near $246,000, according to the National Association of Realtors ($261,000 in metro Phoenix).

Besides, many buyers make substantial down payments of 20 percent or more, thus taking out smaller loans.

At any rate, this restriction applies only to newer loans taken out after Dec. 14, 2017, noted Tim Steffen, director of advanced financial planning for Baird Private Wealth Management.

"Any loans in place prior to then are still subject to the (previous) $1-million debt limit," he said. "So if the interest on a loan was deductible in 2017, it will likely still be deductible in 2018."

3. Myth: Borrowers no longer can deduct interest on home equity loans

For many people with home-equity loans, the interest deduction was eliminated. But some borrowers still will be able to make use of this tax break. It really boils down to how loan proceeds are used.

As long as the borrowed amount is used to buy, build or substantially improve a home, the interest remains deductible, said Steffen.

But if the proceeds are used to buy a vehicle, pay off other debts (such as credit-card balances) or for other, non-housing purposes, then the interest is no longer deductible.

"This means that borrowers will need to carefully track the use of their home-equity loan proceeds in order to maintain the tax deduction," he said.

4. Myth: Reform means parents no longer will receive tax breaks for their kids.

The personal exemption was repealed, which means there's no longer a $4,050 deduction for a spouse and each dependent, noted Steffen. However, the newly expanded child tax credit will help to offset that.

The tax credit for children under age 17 has doubled to $2,000, plus there's a new $500 credit for other dependents. "So older kids or even your parents who are dependents can qualify for a new credit," Steffen said.

Also, the income levels for eligibility have risen dramatically, meaning many additional families will benefit. For many households, "The new credits will more than offset the loss of the deduction," Steffen said.

5. Misconception: Federal tax reform doesn't affect state income taxes.

Not quite. Most states including Arizona base their own income-tax systems on the federal tax code almost entirely or use it as a starting point. So the drastic changes at the federal level could affect some of these states and the taxes their residents pay.

Reform will broaden the federal tax base, subjecting more personal income to taxation, by eliminating various deductions and exemptions. Congress largely offset this by cutting federal tax rates.

But so far, most states haven't yet cut their own rates or made other adjustments. Unless they do, "Most states will experience a revenue increase" and residents of those states will pay more, the Tax Foundation predicted.

"The vast majority of filers will receive a tax cut at the federal level, but they could easily see a state-tax increase unless states act to prevent one," the group said.

In particular, federal tax reform eliminated the personal exemption but increased the standard deduction. Yet "eliminating the personal exemption broadens the tax base considerably more than raising the standard deduction narrows it," subjecting more income to taxes, the Tax Foundation said.

Thus, it will be important for people to monitor what actions, if any, their state legislatures take.

Reach the reporter at russ.wiles@arizonarepublic.com or 602-444-8616.

If you have questions regarding your specific situation, please contact our Blue Springs tax office at 816-220-2001

Mike Mead, EA, CTC
Alliance Financial & Income Tax
807 NW Vesper Street
Blue Springs, MO. 64015
P - 816-220-2001 x201
F - 816-220-2012
AFITOnline.com

Tips to keep in mind on income taxes and selling a home

Taxpayers who sell a home may qualify to exclude from their income all or part of any gain from the sale. Below are some things taxpayers should keep in mind when selling a home:
Ownership and use. To claim the exclusion, the homeowner must meet the ownership and use tests. During a five-year period ending on the date of the sale, the homeowner must have:

• Owned the home for at least two years.
• Lived in the home as their main home for at least two years.

Gain. Taxpayers who sell their main home and have a gain from the sale may usually be able to exclude up to $250,000 from their income or $500,000 on a joint return. Homeowners who can exclude all of the gain do not need to report the sale on their tax return.
Loss. Taxpayers experience a loss when their main home sells for less than what they paid for it. This loss is not deductible.
Reported sale. Taxpayers who cannot exclude the gain from their income must report the sale of their home on a tax return. Taxpayers who choose not to claim the exclusion must report the gain on a tax return. Taxpayers who receive a Form 1099-S, Proceeds from Real Estate Transactions, as part of the real estate transaction must also report the sale on their tax return.
Mortgage debt. Some taxpayers must report forgiven or canceled debt as income on their tax return. This generally includes people who went through a mortgage workout, foreclosure, or other process in which a lender forgave or canceled mortgage debt on their home. Taxpayers who had a written agreement for the forgiveness of the debt in place before January 1, 2017, might be able to exclude the forgiven amount from income.
Possible exceptions. There are exceptions to these rules for persons with a disability, certain members of the military, intelligence community and Peace Corps workers, among others.
Worksheets. Worksheets included in Publication 523, Selling Your Home, can help taxpayers figure the:

• Adjusted basis of the home sold.
• Gain or loss on the sale.
• Excluded gain on the sale.

Multiple homes. Taxpayers who own more than one home can only exclude the gain on the sale of their main home. They must pay taxes on the gain from selling any other home.
Tax credit. Taxpayers who claimed the first-time homebuyer credit to purchase their home have special rules that apply to the sale. Taxpayers can use the First Time Homebuyer Credit Account Look-up to get account information, such as the total amount of their credit or repayment amount.
More Information:

• Tax Topic 701, Sale of Your Home
• Tax Topic 703, Basis of Assets
• Tax Topic 611, Repayment of the First-Time Homebuyer Credit
• IRS Tax Map, Selling Your Home