The Ultimate Guide to Freelance Tax in 2023

Is it mandatory to pay freelance tax?

Filing taxes as a freelancer can be tricky, particularly if you have just transitioned into the world of being an independent contractor.

Freelancing does not spare you the responsibility of paying taxes. In fact, one of the challenges of being an independent contractor is shouldering the combined tax rates that are normally split between employers and employees.

As such, if you are new to the world of freelancing and are determined to know the scope of your tax paying duties, then give this ultimate guide to freelance tax a read!

What is Freelance Tax?

Freelance tax, more formally referred to asself-employment tax, is owed by independent contractors. It comprises their Social Security and Medicare taxes, along with their estimated income taxes that they must pay ahead of time.

Employers and employees each share a 6.2% rate for Social Security taxes and a 1.45% rate for Medicare taxes. Independent workers, however, will have to cover the combined Social Security and Medicare tax rates shared between employers and their staff.

In other words, freelancers are obligated to pay 12.4% in Social Security and 2.9% in Medicare taxes, thereby yielding a total of 15.3% in self-employment tax.

Business Structure

Freelancing can take on different business structures, namely sole proprietorship, partnership, LLC (Limited Liability Company), and corporation. A freelancer’s business structure of choice determines the nature and extent of their tax liabilities.

A sole proprietorship is the easiest business entity for freelancers. Most freelancers are sole proprietors because they do not need permission from the government and are not obligated to cover fees just to be one.

A partnership means that the freelancing business is run by two or more individuals. All parties involved in the partnership share the profits along with the contributions needed to shoulder the business expenses.

LLC (Limited Liability Company) can either be a single-member or multi-member LLC. It is said to be a combination of sole proprietorship and partnership, although the LLC is recognized as a separate and legal existence apart from the business owners. Limited liability companies entail a broader range of benefits and liabilities, such as the capability to own bank accounts and properties, hire personnel, and file or face lawsuits.

A corporation is the most costly and complex of all four structures. Independent contractors in a corporation are called shareholders. This structure is ideal if the goal is to entice investors to shell out money to help grow the business.

How to Keep Track of Freelance Tax

Freelancers who fail to file their tax returns or pay their taxes will be charged a failure-to-file or failure-to-pay penalty by the IRS. The penalty can cost between 5% to 25% for unfiled taxes and 0.5% to 25% for unpaid taxes. These penalties are added to the total amount of taxes owed by the independent contractor.

Listed below are some helpful tips to help avoid incurring penalties and ensure you don’t miss anything in your tax reports:

#1. Track Income & Expenses

As a self-employed worker, you must file your estimated taxes quarterly. You must also obtain a social security number along with an individual taxpayer identification number.

Using the accrual method is highly recommended if you want to track your income and expenses effectively. It means accounting for both income that is yet to be received and expenses that have not yet been incurred within the year in your revenue.

You can also create a self-employment ledger to record and track all your expenses and invoices.

#2. Try Accounting Software

The use of cloud-based accounting software enables a systematic and innovative alternative to monitoring your finances. When choosing accounting software, some key features worth considering include the capability to integrate online banking features or link your credit card, invoicing templates, a built-in tax calculator, and a user-friendly interface for easy account updates.

If you’re not keen on using software, spreadsheets are a good alternative. You can easily create expense reports and enable easy collaboration with shareholders or co-members in managing your income and finances.

#3. Submit Quarterly to IRS

Mark your calendars in advance!

Since self-employment taxes are to be filed quarterly, you have to repeat the process four times in a given tax year to account for the four quarters.

The following are the estimated quarterly tax deadlines for the year 2023:

• 1st Quarter covers January 1 to March 31, 2023; deadline: April 18, 2023
• 2nd Quarter covers April 1 to May 31, 2023; deadline: June 15, 2023
• 3rd Quarter covers June 1 to August 31, 2023; deadline: September 15, 2023
• 4th Quarter covers September 1 to December 31 2023; deadline: January 16, 2024

#4. Consider Hiring a Professional

Hiring a professional to aid you in accounting and filing your freelance tax is a great choice if you are employing staff or have adopted the corporation structure for your freelancing services.

Maximizing the expertise of a certified public accountant (CPA) enables you to file your business taxes accordingly while complying with the regulations set by the IRS and the respective state where you operate your services.

Tax Deductions For Freelancers

Freelancers are also entitled to certain deductions in their taxes, which fall under the following categories:

Home Office

Your home office includes all equipment used for your freelance work, such as your laptop or PC, work desk, printer, etc.

The condition for deducting tax dues through home office expenses is that the space, utilities, and equipment included in your home office must be used exclusively for your self-employment work. You may not use the same space in your home simultaneously for other home activities.

You can deduct home office expenses once or depreciate computer costs as a larger asset and claim the costs later on.

Travel & Meals

All travel and meal expenses included in your tax report must be directly related to the operations and expansion of your freelancing venture for them to qualify as tax deductions.

For instance, if you travel to your work location or have lunch and dinner with your clients, you can deduct your travel and meal expenses from your tax dues.

Education

The key to using education as a viable basis for tax deductions is it should be significant to the nature of your work. Specifically, the subject you are studying should be instrumental in expanding the skill set you use in operating your business.

It may be acquiring certifications or licenses or enrolling in courses that branch out your expertise in your niche. In this case, you can account for the costs of enrolling in additional courses and acquiring certifications and add them to your tax deductions.

Self-employment Tax Deduction

50% or half of the self-employment taxes may be deducted as business expenses on income taxes. That means you can deduct half of the self-employment tax you owe on your Form 1040.

Tax deductions for self-employed workers fall under Social Security and Medicare taxes. The coverage that employees and employers normally split is covered altogether by freelancers or self-employed individuals, making taxes a heavier financial burden.

If you reach a specific income threshold, you are also required to pay an additional 0.9% in Medicare taxes.

Here is a table enumerating the different income thresholds if you are self-employed:

Marketing

Working as a freelancer entails double the effort to ensure you get a steady stream of clients and projects to keep the money coming in.

Are you spending money to promote your business, either through running ads on social media or using traditional marketing methods? If so, then you can keep a record of all expenses involved in promoting your services.

3 Tips to Consider For Freelance Taxes

Enumerated below are some tips you can incorporate to make tax filing more manageable for you.

• #1. Know the basics. Check your net profit and net loss to verify whether you are liable to pay income and self-employment taxes. Also, depending on your freelancing gig’s business structure, you may or may not be entitled to certain tax deductions or exempted from additional paperwork.
• #2. Consider the pros and cons of freelancing. Freelancing comes with inconsistent income, shouldering most expenses like repairs, equipment, and utilities, and the absence of employee benefits. Assess whether you can handle the combined perks and responsibilities of an employer and employee, and if you can flexibly adapt to the tax obligations of freelancing.
• #3. Set up a personal pension fund. While self-employed individuals are not eligible for employee benefits such as health insurance or retirement benefits, you can set up a pension fund to save up for your retirement. Freelancers are entitled to State Pension, but you can also set up a private pension to get more benefits.

Freelance Tax FAQ

#1. Do freelancers pay taxes in the USA?

Yes. According to the IRS, freelancers are considered self-employed and must therefore file taxes as business owners.

#2. How do I report freelance income in the USA?

Use Schedule C (Form 1040) to report income and losses incurred as an independent contractor or sole proprietor. If your income as a freelancer yields an amount that is less than $400 when expenses are deducted from it, then you have to report your freelance tax on Schedule SE.

#3. What forms do freelancers need to submit?

Freelancers are to submit their Schedule C Tax Form to report all freelance income earned within the year, along with a 1099-MISC form on a Schedule C attachment if a freelancer's client pays them $600 or more for their services.

Final Thoughts

Generating income as a freelancer or independent contractor does not make you exempt from paying taxes. As such, it is your responsibility to know how much taxes you owe, when to file them, and what deductions are applicable to your taxes.

Understanding the different structures that are applicable to your freelancing work likewise presents you with more options on how you can make the most out of the freelance work setup.

Key Takeaways

• Freelance taxes are taxes owed by freelancers, independent contractors, or self-employed individuals.
• It covers Social Security and Medicare taxes, and comprise a significantly larger combined percentage of 15.3%.
• Freelancing can take on four different business structures, namely, sole proprietorship, partnership, LLC, and corporation.
• Tax deductions for freelancers include expenses for home office, travel & meals, education, self-employment tax deductions, etc.
• It is crucial to consider whether freelancing is a good fit for you as it will help you in understanding the basics of freelance taxes and managing your tax obligations better.