Tax Talk for Online Freelancers

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According to the year-end data from companies such as Elance and oDesk, the freelance Web workforce is stronger today than it’s ever been. This is partly due to an uncertain economy that has pushed many workers into the freelance business, while for thousands of others the decision is based solely on lifestyle preferences.

No matter what the reason, the upcoming tax season will be for many their first experience filing as a member of the self-employed/sole proprietor/freelance community. Below are a few general suggestions to help manage the process over the next two and a half months, as well as some tips for getting a head start on 2011.

Have a check ready
There’s no sense beating around the bush on this one, here’s the bad news first. Perhaps the biggest double-edged sword in the freelancing industry is the fact that your income taxes are not automatically deducted from your earnings by a traditional employer, as most of us are used to. So when tax time rolls around, freelancers generally owe 15.3 percent of their net annual income. If this is the first you’ve heard of this, it’s better to find out now than when the letter from the IRS arrives a few months from now — a letter that, unfortunately, many freelancers before you have been shocked to receive. If you haven’t done so already, start planning today for how you will make that payment in April.

Tips for 2011: Most seasoned freelancers have set up a budgeting system in which roughly 30 percent of their earnings are put away for tax payments – as it’s better to be safe than sorry. Two very wise strategies include putting the money into a savings account where it earns some interest, or the even shrewder move is to start a retirement account which can actually lower the amount you will owe to the IRS the following April. Also, arrange to pay your taxes on a quarterly basis if four smaller payments are more manageable than one larger one.

Know your deductions
If you’re still with us after the last item, here comes the good news. While many freelancers overlook the self-employment tax mentioned above, even more neglect to make the proper deductions they are owed. As sole proprietors, freelancers incur a wide assortment of expenses throughout the year that they can rightfully declare at tax time. If you do all of your work at home, for instance, you are allowed to deduct a percentage of the expenses you put into your home each month such as rent and utilities. Business expenses on software, travel (including mileage on your car for business purposes), books and training, trade shows and networking events, telephone and Internet costs, office supplies, computer supplies, mailing supplies, postage, etc. are all legitimate deductions for a freelancer. However, read the word “legitimate” one more time for good measure, and try to avoid taking deductions for inspirational movies or food and drink that you believe enhances your creativity.

Tips for 2011: If you are not already in the habit, get in the habit of keeping every receipt ever given to you. Regardless of the size or the nature of the expense, this will help condition you so that you don’t find yourself with no credible evidence of the $1,500 investment you made on your business laptop if and when the tax man comes calling. Also, note that the end of the year is a good time for large-scale purchases such as that, especially if you know that you will need something for your work and can acquire it at the end of a year rather than the beginning of the new one.

Get organized
Many freelancers take the previous advice and become diligent receipt-collectors and invoice-takers, only to stuff said materials in random shoeboxes with no rhyme nor reason. If you find yourself in this category, don’t wait until April to try to sort through the piles of papers. Start organizing today, if possible. And if you don’t any have piles of papers because you keep everything on a computer, now is the time to start printing everything and organizing it in an acceptable fashion. Kudos to you, by the way, for trying to limit the amount of paper you use, but if Uncle Sam is anything it’s definitely not green. Paper rules when it comes to dealing with the federal government. Besides, you can keep track of all your printing and ink costs and deduct them on your 2011 returns.

Tips for 2011: There are countless online bookkeeping tools and accounting software available for freelancers today, and it may not be a bad idea to explore some of them if you find that your operation grew at all during 2010. Some of the best ones to consider include Outright, specifically designed for tax accounting, LessAccounting, Shoeboxed and Freshbooks.

Learn your local tax laws
This is not to suggest a second career in law, but it’s always a good idea to do a quick online search into the current laws of your city and state before delving too deeply into your taxes. Some places have very specific rules about income gained through self-employment, and 20 minutes of research on the front end can save you hours of aggravation or even thousands of dollars in cost on the back end. New York City, for example, used to have what it called an unincorporated business tax for freelancers who earned more than a certain amount (I don't know if it still exists), and it behooves you to know those things as soon as possible.

Tips for 2011: If your freelance standing is more than a temporary situation and you consider yourself a sole proprietor for the long haul, perhaps consider something more than the 20 minutes online suggested above. Many community colleges and local public libraries offer fairly in-depth classes and seminars around this time of year for people interested in gaining more than a passable knowledge of their state’s income tax laws.

Embrace the community
Freelancers often feel like they’re detached from the rest of the world when they first enter the industry, but nothing could be further from the truth. The online freelance community is one of the most spirited and loyal groups on the Web, and people are willing to help each other with just about any situation. If you read the first item of this post and are still trying to figure out how to come up with 15 percent of your 2010 freelance income, ask your fellow freelancers what they did in the same situation. There are scores of great blogs devoted to the online freelance industry, and the two companies mentioned in the opening sentence are as good a place to start as any.

Tips for 2011: Aside from your tax questions, most of which will be answered in short order in discussion groups and forums, make this the year that you really embrace the freelance community if you haven’t already. At this time next year, you will find that you not only have a stronger handle on your tax situation, but there’s a good chance that as a result of joining the community you will also have more freelance income to declare.

 

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4 comments

Cullen Swanson 02-05-2011 2:29 PM

A great article. Being organized up front, and understanding how expenses should be organized based on how you prepare your taxes makes a huge difference during an audit. Don't ever take advantage of driving miles, freelancers! Keep good records of your meetings and driving miles. Most of the time of you keep a good appointment calendar, be sure to never delete old appointments and meetings so if you need to create a mileage log, you can go off of your appointment calendar...although many IRS agents will accept your appointment calendar as a mileage log. When you set appointments from now on, include the location and purpose of your meeting. Don't just put "meeting" and a date/time. This will serve you well when looking up historical data for an audit and help keep you organized a little more!

SuziB 03-05-2011 12:22 AM

Thanks for this article.  Regards deductible expenses, I found that having a separate checking account and credit card for my business really helps me stay on top of expenses.  I try to pay all business expenses by credit card (and pay it off each month).  The credit card statements help me keep organized and provide extra documentation in case on an audit.

Kathy Blackmore 01-25-2012 10:43 PM

It must be liberating to be working as a web freelancer. I have always admired them because they get so much freedom doing the things they like. However on closer inspection, free lancers also come with their own problems as well. Lucky, thanks to these tips, the freelancers can get advice for some commonly met problems. One of the major problems should be taxes. Freelancers should pay attention to the tip mentioned about how to pay taxes.

IT jobs 03-02-2012 12:52 AM

IT and tech companies can be very successful overnight, but there are also stories about them closing down as fast. This resulted in many IT jobs being cut, and IT gurus left fending for themselves. Many of them have turned to becoming free lancers and thus the reason for a thriving free lancer community. I think many of them should take note of this information on the page.

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