Tax Planning Tips for your New Freelance Business
January 22, 2019
Many people get into freelancing because they are creative free spirits. A creative free spirit does not a tax accountant make. Tax planning as a freelancer is much harder on your left brain and your budget than being a full-time worker. You’re not sharing the burden of Social Security and Medicare taxes, you have to track your personal expenses separately from your business expenses, and you have to estimate how much you owe.
When I first started freelancing, I charged in with the conviction that I was going to do it right, from the get-go. T’s crossed, i’s dotted, taxes paid! I was shocked at how hard it was to make sure I wasn’t forgetting to do something. There seemed like no way to tell when I had reached the end of the scope of things I had to do.
Taxes are like the dead elephant in the room. You can ignore it, but it’s only going to stink more and become more of a mess the longer you pretend it’s not there. You might as well get your rubber gloves on and find the mop.
You don’t have to do it alone. I suggest hiring an accountant who specializes in freelance clients.
But it’s what you do during the year, such as keeping good records and creating habits with discipline, that will really set you up for success for filing in April.
Here’s what I learned along the way.
Register your business
If you’re new to freelancing, you have to register yourself as a business, which is not as hard or as expensive as I thought it would be. Many new freelancers go with a sole proprietor option, though others choose LLC for more financial and legal protection; an LLC can protect your personal assets in the case of a lawsuit.
When you’re ready to file the paperwork, go online and find your state’s Department of Revenue. Their website should have all the information you need, which varies from state to state. Don’t be afraid to reach out if you need help. Organizations such as SCORE are available to give you advice.
Once you have your business registered, get a business bank account. If you have a completely separate account for all business expenses, keeping track of deductions during the year will be much easier come tax time. Again, it was not as difficult as I thought it would be. Just walk into your bank and get set up. You’ll get a checkbook and debit card from which you can charge your tax-deductible purchases.
Track your expenses
Any expenses related to your business get deducted from your taxable income. Direct expenses are the ones you use just for your business. Indirect are a mix of personal and business, perhaps like your cell phone, for which you might only deduct a part.
Keep your business expense receipts and file them physically or electronically by date. If it’s a business meal, write on the receipt who was there and what was discussed. Your accountant won’t need these receipts, but you’ll be glad you have them if, god forbid, you ever get audited.
When paying bills, write the check number if you used one, date paid, and amount on the bill and in your bookkeeping records.
If you use your car for business, track your mileage. That means the date, odometer reading at start and end of trip, location at start and end, business reason for trip, and number of miles. The best thing to do is keep a print-out of a tracking sheet in your car, but other more advanced options like apps are also being developed now.
Categorize your payments in your accounting software, such as Quickbooks or Freshbooks, using the categories provided by the IRS for deductions. Some services offer access to accountants, according to my accountant, Anne-Marie Wright. If you’re not sure what to do with a certain expense, you can make a note of it in the memo field.
“That is extremely helpful come tax time, when I’m looking through my clients’ books,” she says.
She also recommends having an “Oops” file where you put any business expenses that you accidentally paid for with your personal account. Your accountant will know how to account for those come tax time.
Manage your cash flow
Transfer a percentage of your income to a tax savings account, to be on the safe side. For example, maybe you start with 30%. Then, can you do a little more? If you transfer 40% for example, you put in a little cushion for retirement savings. Your actual rate of savings should be calculated by your accountant,
Then, here’s the tricky part: Don’t touch that money. It is not yours.
Things to keep:
- Bank or credit card statements
- Cancelled checks, deposit slips
- Itemized phone bills
- A list of business assets that might depreciate over time, like your computer.
Get a filing cabinet and designate a place for:
- Tax records
- Tax returns
Computer folders to have:
- Bank Statements (organized by tax year)
- Tax Paperwork (organized by year)
- Business Receipts
Don’t forget to back it up!
Back up redundantly, using two kinds of storage. You might, for example, back everything up on a hard drive, and on Google Drive.
Mark Gomez, of Gomez Accounting suggests you take a morning at a coffee shop to go through your bank statement and/or credit card statement. During this time, summarize and categorize your expenses and income, perhaps using a software like Quickbooks or Freshbooks. Reconciling, a word which until recently was a mystery to me, means comparing your records to those of your bank. This ensures that you wrote all your expenses down, and that nothing was charged that you didn’t know about.
“Keep this handy, because every three months, you will add up the last three summaries and create a quarterly income statement,” says Gomez. “This will determine if you need to pay estimated taxes. If the statement is zero or negative, then quarterly estimated taxes are not required. If the statement is positive, then you will need to figure out what tax bracket you are in, federally and state-wise, and send in the appropriate amount.”
More information from the IRS:
The IRS has a lot of plainspoken information for anyone to read, not just for taxation enthusiasts. Here are the ones you might want to check out:
- IRS Publication 463 Travel, Entertainment, Gift, and Car Expenses
- IRS Publication 583, Starting a Business and Keeping Records
- IRS Publication 535, Business Expenses
- IRS Publication 946, How to Depreciate Property
- IRS Tax Topics 704, Depreciation
- IRS Publication 509, Tax Calendars
- IRS Publication 505, Tax Withholding and Estimated Tax
Forms to be concerned with:
- Form 1040 US. Individual Income Tax Return and Schedule C (Form 1040) Profit and Loss From Business
- Self-Employment Tax, filing Schedule SE (Form 1040)
- Form 1040-ES, Estimated Tax for Individuals
- Form 1099-MISC Miscellaneous Income
Go through this article and make sure you have a system for each one. Your future self will be much happier that you did.
Paulette Perhach’s writing has been published in the New York Times, ELLE, Slate, Cosmopolitan, Marie Claire, and Vice. She’s worked for Health and Coastal Living magazines, as well as various newspapers. Hugo House, a nationally recognized writing center in Seattle, awarded her the Made at Hugo House fellowship in 2013. She was nominated for the 2016 BlogHer Voices of the Year award for her essay, “Fuck Off Fund,” which is anthologized in Freshman Year of Life from Flatiron Books.
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