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The Vector Impact is not qualified to give financial advice. This post was written by contributor, Ken Boyd, CPA, an accounting and financial expert.
The gig economy is on an ascending trend this year and, according to experts, this shift is here to stay. Not only did freelance work help people navigate lockdowns and create stability (both mental and financial), it became a welcome exit strategy from corporate Amercia.
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So if you’re interested in dropping your 9-to-5 or looking for a side job, the path of self-employment may be right for you. But don’t forget that your new freedoms come with new responsibilities.
As an independent contractor, you’re responsible for finding customers, planning marketing strategies, production and delivery, and paying taxes. And since your taxes are not automatically deducted from your check, paying taxes as a freelancer takes more intention and planning.
The good news? There are deductions and exemptions that can reduce your tax burden. However, you’ll need the help of a certified CPA to navigate the intricate and winding roads of tax filing (at least at first). A CPA can help identify the exemptions and deductions that apply specifically to you. You’ll avoid a hefty fine by doing this correctly.
While it’s great to invest in an expert, learning what to expect and how to pay less taxes is essential for any business owner. Keep reading for my best tax-saving tips that will help you maximize your self-employed status (and leave you with more $$ in your pocket).
Tax-saving tip #1: The self-employment tax
When you’re first starting out, it’s easy to feel overwhelmed when you see the amount of paperwork required just to pay your taxes. But what’s even scarier is the fact that you pay more than one tax!
For instance, in addition to the regular income tax, independent contractors also have to pay a self-employment tax (15.3% in 2021). This is what you pay into Social Security and Medicare—that’s automatically taken out of your paycheck when you’re an employee at a company.
Since these taxes aren’t automatic for your own business, you’ll have to make the payments yourself (since you’re operating as both employer and employee).
The Tax Deduction
You can deduct between 50% and 57% of this tax on your personal return. Talk to a tax professional to know for sure.
Tax-saving tip #2: Business expenses
As a 1099 worker, you’re likely aware that you can deduct expenses that support your business activity. But do you know which expenses are eligible?
These can include the rent of your workplace, devices used for the business, trips to meet with clients, furniture, and more. Even deducting vehicle expenses is acceptable if driving is necessary for your business.
The Tax Deduction
A tax professional can give you a list of expenses that can be included in this category. Throughout the year, keep all receipts, invoices, and any other type of document that can prove the expense.
Tax-saving tip #3: Save for the future and invest in your health
Did you know you can still have a 401(k) or a traditional IRA even if you’re self-employed? Even better, you can use these tools to pay less taxes (ask your accountant how and why).
Save for the future and prepare for your retirement years while also using these investments as a method to reduce the amount you pay in taxes.
It’s also possible to contribute to a Health Savings Account when you’re self-employed. You can set up health insurance through your business as well. Another option is to combine a high-deductible plan with a Health Savings Account. Doing either of these will set you up for another tax deduction.
The Tax Deduction
Even if it may seem like a stretch in your budget, health and retirement funds should be a priority. And getting a tax deduction for doing what you should do anyway? Bonus!
Wrap up
Whether you freelance full-time or you’re comfy with your part-time side gig, remember that anything you earn needs to be declared. While you may only see it as “side income,” to the IRS, your contract work is a business like any other.
That’s why it’s key to learn how to handle the taxes part of your side gig. Start with keeping detailed and accurate records of your earnings and expenses. (Over time, this information can also inform reliable growth strategies and how to increase profits.) And don’t forget to talk with a tax professional.
Tracking business performance and establishing healthy financial habits now will set you up for future business success—so don’t wait.