Some freelancers dread tax season, but following these tips can help smooth the process when it’s time to file your 2023 federal income tax return. Taking the appropriate steps before December 31 could also help you pay less taxes as a freelancer this year. It’s sometimes possible for freelancers to pay less income tax than they would have as an employee (Thank you, tax deductions!). But this is not always true.
Here’s what you should know.
Tax tips for preparing your freelance income
If you’re a freelancer, you might receive several 1099s. Here are some of the most common types:
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- 1099-NEC: This tax document reports your nonemployee compensation (e.g., freelance income).
- 1099-MISC: This tax document is no longer used for nonemployee compensation. However, you might still receive one if you had miscellaneous income, such as royalties.
- 1099-K: You might receive one of these if you received a certain amount of payments for goods or services through third-party payment processors.
Note: The IRS has delayed the $600 1099-K reporting threshold, that was initially going to apply for 2023, so you might not receive a tax form from third-party platforms, such as PayPal or Venmo for this year. (The threshold remains at $20,000/200 transactions for the 2023 tax year.)
Remember that you must report all your taxable income to the IRS, whether or not you have a corresponding 1099. Go through your bank statements for the year and note any deposits whether from clients, third-party platforms, or online marketplaces. etc.
Calculate business expenses
Deducting eligible business expenses can lower your taxable income, but it might also make you eligible you for tax credits that you wouldn’t qualify for otherwise. For example, the earned income tax credit and child tax credit aren’t available to higher earners, and the amounts of these credits phase out once your adjusted gross income (AGI) reaches the thresholds set for a given year.
While it’s best to keep track of business expenses throughout the year, life can get busy, and that might not always happen. Now is a good time to locate receipts and review bank statements that show how much you’ve spent on your business this year. Don’t discount the smaller purchases (for example, a pair of scissors or a pack of pens). Those smaller amounts can add up quickly.
What expenses can you deduct as a freelancer? Deductions for business expenses must be both ordinary and necessary to your business. For example, you could deduct guitar strings if you provide guitar lessons but not likely if your business is delivering groceries. However, there are some lesser-known expenses freelancers may be able to write off on their taxes. (Some limitations may apply.) Here are a few examples:
- Health insurance premiums paid during the year
- Education expenses related to your profession/field of work
- Business meals (limited) and travel expenses
- Bad debts (for example, if a client never paid an invoice)
- Self-employment tax (50%)
- Interest on business loans or credit cards
Just make sure you only deduct legitimate business expenses. Deducting personal expenses could trigger an audit or penalties.
See if you qualify for the home office deduction
The home office deduction is a tax break that most freelancers have heard of and it’s one you don’t want to miss out on. To qualify for the home office tax deduction, you must use a space regularly and exclusively for business purposes. The space could be an entire room or just part of a room. There are two options for calculating the home office deduction.
Actual expense method: Multiply the expenses of operating your home (mortgage or rent, utilities, etc.) by the percentage of the home you use for your home office. So, if 10% of your home’s space is used as your office, you would multiply your total home expenses by 10%.
Simplified method: Your home office deduction would be $5 for every square foot of your office. (That is the IRS-prescribed rate.) You can only use this method if your home office is 300 square feet or less.
Contribute to your IRA or solo 401(k)
As a self-employed person, you can deduct contributions to certain retirement accounts, such as a solo 401(k) or traditional IRA. If you don't yet have a retirement account, the good news is that you still have time to open one.
- You can contribute to 2023 individual retirement accounts until Tax Day, April 15, 2024.
- Just make sure you don’t exceed the 2023 contribution limits (i.e., $6,500 for an IRA and $66,000 for a solo 401(k).
Consult with a tax professional
Taxes can be complex whether you’re a freelancer or not. But if you are a freelancer, working with a tax professional may help you maximize your self-employment tax deductions, which can reduce your 2023 tax liability.
A professional can also help you avoid IRS audit red flags, which is essential for freelancers who deduct business expenses on a Schedule C and may have income that fluctuates, sometimes drastically, from year to year.
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