What Your New Business or Side Hustle Means for You This Tax Season
Did you decide to finally branch out and start your own business like you always wanted to? Or maybe you wanted to earn a little extra money on the side so you started freelancing. While these situations may be common, talking about how these decisions now affect your taxes is not. Oftentimes, there’s so many moving parts to starting a business or side hustle that you probably aren’t thinking of the tax implications that come along with it, including a likely increase in taxes. If you have questions on how working as a freelancer will now affect your taxes, you’re not alone. To help clarify some common issues that will now be affecting you, let’s take a look at two examples.
Example #1 John
- Started his own photography business in 2019
- Works full time
Example #2 Sara
- Graphic designer
- Works full time as an employee at a retail company
- Does freelance graphic designing as a side hustle only on the weekends
What Does Being “Self Employed” Mean?
In the examples above we have John, who started his own business and Sara, who just does freelance graphic designing on the side for some extra cash and works full time with another company. Are both John and Sara self employed or just one? You might think because Sara is employed full time at another company she wouldn’t be considered self employed. However, even though Sara is an employee full time at another company, for tax purposes she would be considered self employed due to her freelance work. John is also self employed as he is the sole proprietor of his business. When you are self employed, it means you are now responsible for the self employment tax.
What is the Self Employment Tax?
When you’re employed through a company, taxes are taken out for health insurance as well as Social Security and Medicare. Additionally, your employer will pay a part of the taxes so you do not have to pay the full amount. When you’re self employed, however, this isn’t the case. The Self-Employment Tax is the amount of money for Social Security and Medicare that you are now responsible for paying. Here’s the breakdown:
- 12.4% for Social Security
- 2.9% for Medicare
That’s an additional 15.3% that you are now being taxed. It’s important to be aware of this tax as when you are self employed, the amount you have to pay may catch you off guard.
Which Forms Will I Use for Taxes Now?
Now that you’re self employed, gone are the days of the W-2. You’ll have to determine which tax forms to use depending on the type of business. For example, whether you’re self employed, a sole proprietor, or partners in a partnership will determine the various tax forms you’ll need to complete. Most small business owners use a Schedule C and file it with a Form 1040. Determining which type of business you have for tax purposes can be confusing, and it could be a good idea to consult with a tax expert to see what is right for your situation.
Do I Still Get Tax Deductions for Being Self Employed?
Absolutely! One of the biggest tax deductions for being self employed are start up costs. Start up costs can include the money it costs for buying a new website, advertising fees as well as products that are required to help you with your business. For example, if Sara were to have bought software that would make it possible to do her graphic designing on her computer, this would be a start up cost that would be tax deductible. To make sure you’re figuring out all the tax deductions you are eligible for, it’s best to hire a professional tax preparer.
Which Tax Forms Do I Need as a Freelancer?
If you are a freelancer you will likely be getting income from a number of different companies. In the past, you would have received a W-2, which included all your earnings from one company. As a freelancer, you’ll now have separate tax forms such as a 1099-MISC that you’ll use to keep track of all your earnings from different clients. Essentially, this form is used to report the total payments you received from a person or entity during the past year.
Should I Consider Getting Help With My Taxes This Year?
If you recently started your own business, there are a lot of things to consider with taxes. With all the paperwork and receipts that you’ll acquire, as well as handling potential losses, it can be tricky to keep track of everything. A tax preparer can help you to sort things out and make sure everything is filed properly. Perhaps most importantly, a tax preparer can assist you with finding all the tax deductions and write offs that are available to you. By hiring a professional, you’ll ensure that you’ll save the most amount of money possible. Let’s take a look at another quick example.
Let’s say Sara made $6000 with her graphic designing side hustle and she isn’t sure what she’s qualified for when it comes to write offs, so she doesn’t claim any deductions. Her taxable income remains $6000 and her taxes she owes this year comes out to $1200. Now let’s say that Sara decided to hire a tax professional because she is newly self-employed and she doesn’t feel confident about doing her own taxes. Her tax professional finds that Sara qualifies for $5000 in write offs, which makes her taxable income only $1000 compared to $6000. Now, Sara’s taxes this year only comes out to $200 vs $1200. By hiring a tax professional, she’s now saved $1000 and gets to keep more of her money.
Starting a business or freelance work can be an exciting time but it can be disheartening to see so much of your hard earned money going to taxes. Hiring a tax preparer is one of the best ways to ensure you’ll be saving the most amount of money possible. This year, hire a tax professional and see how much money you can save.