Are you a freelancer? Do you know how to save on taxes as well as save money? If not, then it’s high time you learn! If you don’t want to spend your hard-earned cash on the IRS, it’s important to know all the ins and outs of your tax situation, both on your business and personal income taxes. Here are seven tax-saving tips that every freelancer needs to know.
Knowing what expenses qualify
Freelancers are an integral part of any business. They can save companies time and money, which can lead to a win for both parties. However, the nature of freelancing makes it tricky when it comes to taxes. There are some expenses that freelancers can deduct from their income and get a refund on next year’s taxes. Here are seven tax-saving tips every freelancer needs to know:
Freelancers need a dedicated home office where they will spend most of their time working.
If you have a home office, you’re eligible for deductions if you work in your space for 20% or more during the tax year.
You might qualify for the Home Office Deduction by having a physical area in your house set up as your workspace with all necessary equipment.
If you don’t want to set up shop in your own home, many professionals choose coworking spaces.
You may also be able to deduct internet and phone bills depending on how much time is spent using these services at the office versus at home.
Some freelancers can even use their vehicle as an office so mileage driving between offices is deductible.
Freelancers who meet certain requirements may also be able to take advantage of other deductions like union dues, clothing costs related to job duties, school supplies needed for classes needed for jobs, and educational credits.
Figuring out your adjusted gross income (AGI)
One of the most important things for freelancers to keep in mind is their deductions. Your adjusted gross income (AGI) is a number found on your W-2 form that you use for figuring out how much money you’ll pay in taxes. The more deductions you can claim, the less money you’ll have to pay the government come tax season. To figure out your AGI, subtract all of your deductions from your gross income. Here’s a list of some common deductions:
- Self-employed retirement contributions
- Mortgage interest paid
- Investment interest expense and capital losses
- Charitable contributions made by cash or check
- Home office expenses
- Employee business expenses
- Educator expenses. Not only will these deductions save you money, but they might also help to give you peace of mind about the amount of money that could be going into your pocket every month at tax time.
Cutting back on retirement contributions
If you’re in your twenties and thirties, it’s likely that you haven’t contributed enough to retirement funds. You may also want to consider cutting back on retirement contributions for a few years if the company you work for matches your contribution. This is because when you leave the company, you will have more savings from the matching funds that were never put into the plan. In addition, if this is your first year as a freelancer, take advantage of a SEP IRA account.
It allows individuals with no other employees than themselves or their spouse to make tax-deductible contributions of up to $5500 each year. The account has much less paperwork than a traditional 401K and it can be set up by opening an individual retirement account at any financial institution. Plus, there are no limits to how much an individual can contribute to their own SEP IRA accounts once they are set up.
Deducting home office expenses
You may qualify for a deduction if you use part of your home exclusively and regularly as your principal place of business, or if you meet the qualification requirements for being an employee. The home office must be used exclusively for the business, and it must be the principal place of business. You can deduct expenses related to maintaining the home office, such as insurance premiums and repairs. However, you cannot deduct expenses related to general living expenses like food, utilities, and furniture.
If you do not qualify for this tax deduction, there are other ways that freelancers can save money on taxes. For example, freelancers are able to deduct their contributions to health savings accounts, which will help them pay less in taxes later when they withdraw funds from these accounts after retirement age. Freelancers should also consider their eligibility for certain deductions that could help lower their taxable income before each year.
Maximizing business mileage deductions
One of the most important tax deductions for freelancers is their mileage. It’s also one of the easiest to get wrong and overlook, so it pays off to make sure you’re maximizing your deductions as much as possible.
A lot of people are under the false assumption that they can deduct any amount they want just by keeping a log. That’s not true, and there are some specific guidelines you’ll need to follow in order to maximize your mileage deduction.
The general rule is that an individual can only deduct the cost of operating their vehicle over 100 miles away from their home office, or when they work at least 50 miles away from home. You can also deduct other travel expenses like tolls, parking fees, and public transportation costs on top of that.
Taking advantage of the deduction for charitable donations
Freelancers and independent contractors are eligible for the same deductions as employees, but they often overlook this option when preparing their taxes. When you itemize your deductions on Schedule A of your Form 1040, you can claim a deduction for any charitable donations made during the year.
You will need a receipt from the organization that shows how much was donated and whether it was cash or non-cash. If it is in cash, such as a check or money order, then you will also need a bank statement showing where the funds came from. If the donation is not cash, such as clothing or household items, then you must have a written record of what was donated with an estimate of its value.
Beware of self-employment tax: As an independent contractor, you have to pay self-employment tax.
Self-employment tax includes both social security and medicare taxes that your employer would normally pay if you were an employee. In addition to paying this tax out of pocket each quarter, freelancers who earn over annually must make estimated quarterly payments too. Keep track of all your earnings so you know exactly how much self-employment tax you owe each quarter.
Qualified retirement plan contributions
Contributing to a qualified retirement plan is one of the most effective ways for freelancers to reduce their taxable income. If you’re eligible and contribute, you’ll lower your taxable income by up to $18,000 a year and that’s before any other tax benefits. Plus, your contributions will grow on a tax-deferred basis until you’re ready to take distributions.
You can make contributions as an individual or through your employer. To be eligible, you must have earnings from self-employment during the current year and meet certain other requirements, including age (must be at least 18), U.S. citizen or resident alien status, and earned income from self-employment in the previous year of less than $127,200 if married filing jointly.