Tuesday, July 10, 2007

Freelance Income and Taxes

So, I'm shortly to get my first check for freelance work. It's going to be in the neighborhood of $350. As I've mentioned, I'm earmarking the money from this job to pay for my grad school application process, but what do I do about taxes? I've done a little light research, but most of the stuff I've found seems to be targeted towards people like K, who are full-time independent contractors, not people who have W-2 jobs but earn side income on a a freelance basis. Do I need to do quarterly estimated payments? Will I need to pay the self-employment tax? Should I bother setting aside money for taxes, or should I just assume that because the amounts are small, my W-2 withholding will cover my entire tax bill?

I know lots of my readers have additional freelance income. Any resources you can point out or personal experience you can share would be greatly appreciated.


Nancy said...

Hi. I did free-lance editing for years in addition to a regular staff job. When I made relatively little additional income I did not bother to adjust my income tax plans (no changes to deductions, no quarterly payment of taxes) and only occasionally did I end up the year owing taxes. Once I started to make in the thousands/year, I then took deductions for a home business (percent of area of house, percent of utilities, etc.) and made quarterly tax payments. It came down to a matter of degree for me -- how much you can safely make before triggering any alarms will depend on your personal situation.

I am married, with dependents, own a house, and have a child in college so my situation may be more complex than yours. And, I am not a tax expert -- this is just one woman's experience.

Jeff said...

From the IRS point of view, one of the key factors in deductible business expenses versus nondeductible hobby expenses is whether your business maintains separate finances. This can be as simple as opening a checking account with your business name and putting all your checks in there and buying your PC, etc. from that account.

Believe it or not IRS.gov also has a lot of readable info.

plonkee said...

I'm not an American so you'll have to take this for what its worth.

Presumably the most you'll have to pay in taxes is your marginal rate (in the UK mine would be 22%) plus any social security tax (and state tax?). If you saved that amount from the $350 then you'd cover yourself for tax.

I don't think that you should be out enough to trigger penalties for underpayment on an extra $350.

Jon @ The Money Mythos said...

You only need to pay estimated taxes if you plan on owing $1000 or more in taxes. So say you're in the 15% tax bracket, you'd need to make more than $6500 before you would have to make estimated quarterly payments on it.

Actually, I don't think you even have to declare taxes on anything below $500, but I'm not sure on that.

Heather said...

The IRS has calculators you can use to estimate your tax obligation. Then make quarterly payments from there if you need to.

English Major said...

Thanks, guys--this is very helpful already. Jon and Jeff, I don't think I'll be making nearly enough from this extra job to owe $1,000 in taxes, and I don't think I'll be taking business deductions on my taxes, either (the only supplies for this job are my pre-existing computer and internet connection and my time)--thanks for telling me what the requirements are.

Probably what I'll end up doing is saving the money in a separate ING subaccount earmarked for grad school. If I have a tax shortfall based on my W-2 allocations, I can pay it out of that account.

And thanks for pointing me towards IRS.gov, Jeff and Heather--I'll check it out. I guess I'd assumed it would be over my head.

Raisin said...

I work for a photography lab (w-2) and also do freelance photography. As a result of working at a lab, I am networked with several freelancers with a steady gig. There are a few things that you need to do, and I will try and rough out the bullet points.

After you get paid, pull out sales tax, if applicable. Set that in a dedicated savings account (like an ing direct orange for business) so that you can pay out sales tax quarterly.

Pay out costs. In other words, if you are running a crew, or having to buy materials, or need to reimburse someone (or yourself) for capital, pull that out. If you have a business phone or other dedicated business expense, pay it out of your revenue.

Anything left over is profit, and this is what you will be taxed on, so you need to take the profit (if any) and write a check from your business account to yourself for whatever you profit.

When you deposit the check, take 25 percent of that and set it aside in a interest bearing savings account (like an personal ing orange account), and leave that alone until tax season.

If you do this well and make a solid paper account of what is going on, then any tax professional that is used to itemizing taxes for your particular freelance industry should be able to pull up your sales tax records, business expenses, capital expenses, etc and do a good job of minimizing the amount you have to pay out in tax. If you are in the photography business and your tax man doesn't know to deduct props, then you are in trouble, so make sure your tax man is familiar with your type of business.

Sarah Hurst said...

Hi there. My husband and I own a freelance video (he does video; I do print), and we don't pay quarterly taxes. We're both employed full-time, and we probably make less than $5000 a year in freelance business. Last year my deductions at work paid for whatever I owed on our freelance jobs. So, if you're having taxes withheld from taken out at work, you're probably safe. Hope that helps!

PiggyBank Raider said...

You are supposed to pay taxes on every single dime you make... whether or not it's under $500 doesn't matter. That's a common misconception, however, probably because the client is not required to send you a 1099 unless you earn $600 from them. But you still owe taxes on it.

When I worked AND freelanced, I increased the amount of taxes taken out of my regular paycheck to cover my freelance income. That's a good way if you expect your earnings to be minimal. But, believe me, it'll add up quickly. Whether or not you're getting enough taxes taken out of your paycheck depends on your personal situation and your withholdings. There are calculators online you can use for estimates, though.

I'd recommend starting a spreadsheet of income versus expenses.

Here's a link to some tax tips for freelancers: http://www.freelancefactor.com/tax.html

David said...

I earn an average of $200/month on freelance software work. I have found that my withholdings from my full-time job easily cover my tax footprint from both my full-time and freelance jobs, with even a little refund at the end. I did wind up having to pay $40 or so on state taxes, but I think they are likely more forgiving on that sort of thing. As someone else said, if the taxable income from a source is greater than 5-6k, you might want to start withholding more from your job.

At the worst, you can claim ignorance if they flag you for some reason (and promise to adjust behavior), but it will likely not be a problem if it's under a few thousand.

SF Money Musings said...

It really depends on how much freelance income you're going to make and deductions. If you're going to average several thousands in freelance income, I'd set aside 10-15% on the conservative side for self-employment taxes. It also depends on if you're taking any deductions.

I'm probably not going to make more than $500 in freelance work if I'm lucky. And with my legitimate expenses such as cell phone, Internet and computer, I'm likely not going to be paying any taxes on such little misc income.

Her Every Cent Counts said...

I was just wondering about taxes on freelance work. I really love the extra cash I'm making freelancing, but all the added stress of figuring out taxes almost makes it not worth it. Almost. The responses to your post are quite helpful. I'm starting to take in about $300 a month in freelancing, so I'm sure I'll owe taxes on it. I also need to figure out if I can get tax deductions for working from home. My full-time, W2 job is actually sort of a work from home job as well. But occasionally I work from an office. So I'm not sure what that counts as tax wise. I definitely use my internet at home for work. Anyway, I'll have to write a blog post about this all soon, and I'll link to your blog when I do.

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