If you’re moving from on-staff work to freelancing—or even just freelancing on nights and weekends—you’re in for a whole new world of taxation. Here’s what you need to know…
Today’s question comes from Meera V., who asks, “Are there any tax implications I should know about when I accept freelance work? Clients don’t withhold taxes, do they?”
This is a very astute question. Whenever you’re making money outside of the standard “working for a company on-staff” model, you have to pay taxes on that money.
When you’re working on-staff, your company takes out money from your taxes from your paycheck. But when you’re freelancing, and often when you’re contracting, your client is not taking out money for taxes. You get the full amount, meaning that setting aside money for taxes is up to you.
Now, first, let me preface all of this by saying that I am not a tax or financial professional. I can tell you what I do, but I strongly recommend you consult with a licensed tax preparation professional.
Okay, that said, let’s get down to it. The crux of all of this is that if you’re making any kind of freelance income, you need to be saving some of it for taxes.
When you make money outside of an on-staff job, you have to pay income tax (at least Federal and probably also State, depending on where you live) and you also have to pay self-employment tax. Neither of these is cheap.
For every payment that you get for a project, you should be setting aside 25%-40% in a separate savings account. Don’t put this money in your checking account or your regular savings account; you’ll spend it and then you’ll be in deep trouble come April 15th.
Personally, I like to set aside 50% of each check I get in because it helps me automatically set aside money. Once my taxes are paid, I can transfer the remainder into my personal savings account.
If you make a lot of freelance income, you may have to switch over to paying quarterly taxes. In total and complete honesty, I’m not at all sure what that threshold is; my accountant switches me over as needed. (Consult a tax professional!)
Another reason you should talk with a tax professional is that freelancers are eligible to claim all kinds of things as deductions, from commuting miles and your home office space, to advertising and professional development. Again, though, this gets complicated and trying to deduct things you shouldn’t is a great way to get in trouble with the IRS.
When you’re looking for an accountant, I’d strongly recommend finding one who has experience working with other freelancers and/or contractors. It’s even better if he/she has experience working with freelance/contract writers, since they might be able to suggest other deductions you haven’t even thought of.
Your turn! How do you remember to set aside tax money? Let us know in the comments below!
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