With the rapid development of information technology, traditional labor relations have changed as well. More and more people are choosing freelance.
But what about freelancer tax obligations? All independent contractors, small-business owners, and freelancers in the USA have to pay taxes.
If you are working for yourself, you pay income tax and self-employment tax. Keep reading to learn how it works and what exactly you need to pay.
As a freelancer, you’ve probably noticed that there is no income tax taken out of your paychecks.
As a result, you will need to pay self-employed (SE) tax.
This tax will be 15.3% of your income.
The second payout for the self-employed is the federal income tax. It makes up from 10 to 40% of the profit. The amount depends on profit.
Those whose annual income does not exceed the tax-free minimum income of 10 thousand dollars pay the least; and self-employed with an income of more than 414 thousand dollars a year pay the highest rate.
Not only business owners are qualified for this tax. All independent contractors, sole proprietors, and freelancers must file for self-employment tax.
“Taxes for freelance allow self-employed individuals to make the same contributions and enjoy the same benefits as permanently employed people”, believe Ivory Research contactors.
How to define who is considered to be self-employed and needs to pay this tax?
The Internal Revenue Service explains it as follows:
Freelancers must be ready to pay SE tax even if they are a U.S. citizen who works for a different country.
If a freelancer combines a full-time job with freelance work, they also need to pay SE tax on the net earnings through freelance activity unless it is less than $400.
The government applies self-employment tax regardless of the age of the taxpayer.
The starting point is to calculate net earnings from freelance activity during the year. In other words, it is the gross income without the business expenses.
Roughly, 92.35% of the net income will be taxed. After you get the amount of the net earnings, calculate 15.3% of it.
In 2020, only the first $137,700 is subject to the Social Security portion of SE tax.
In case your income was very low, or if you had a loss, use IRS Schedule SE for precise calculations.
As it has already been mentioned each freelancer pays 15.3% tax of net profit. How does it differ from the taxes a permanent company employee pays?
If your income is the result of self-employment activity and your tax will be over $1000 during the year, you will have to pay the estimated tax.
These payments are due every 3 months in equal portions.
In 2020, the coronavirus pandemic heavily affected the everyday routine of everyone, and consequently the tax payment dates shifted as well:
|Payment||When income was earned||Date|
|1st payment||January 1 to March 31||July 15, 2020|
|2nd payment||April 1 to May 31||July 15, 2020|
|3rd payment||June 1 to August 31||September 15, 2020|
|4th payment||September 1 to December 31||January 15, 2021|
If you did not receive any income during the specified period, you do not need to pay estimated tax for that period.
The easiest way to determine your estimated tax time and its amount is to use Form 1040-ES.
Note, if you owe more than $1000 of tax and delay the payments, you may face penalties in the end.
Of course, the SE tax rate is rather a burden for all people earning their living with freelance. But there is also a sweet bonus for all self-employed taxpayers in the system. They are given the opportunity to subtract half of the SE tax from their total income.
For example, if your Schedule SE shows $3000 of SE tax for a year, you will need to pay this amount, but at tax time you will be still able to deduct $1500 on your 1040. If you are employed by a company, the W-2 form tells you about all the deductions that can be made to your taxes. But with a 1099 form, you have no idea what deductions you can claim.
In the United States, all taxpayers have access to an electronic service on the tax authorities’ website. It was introduced to simplify the procedure for tax payments.
Overall, the main strategic goal of the e-service is to dramatically reduce misunderstandings and arguments with the tax authorities, ensure full clarity and payment of tax liabilities, and reduce the number of inspections.
Tax payers are registered on the website of the tax authorities using a code (Taxes Identification Number) and a password (Web file number). With the help of an electronic service, the payer submits, clarifies any report queries, and pays taxes from any location via the Internet.
The payer also has permanent access to their data (in particular, to the personal account card). Besides, when filling out tax returns on the website of the tax authorities, the taxpayer automatically receives tips on the correctness of filling.
If a taxpayer provides inaccurate information more than once, the tax authorities may block that taxpayer’s access to the site.
At first, with the help of Schedule C, you will calculate the result of your business activity, i.e. profit or loss.
After it, you have to use the result you have got in Form 1040. This procedure will show how much you need to pay on certain dates during the year.
Besides submitting an annual tax rerun, all self-employed people have to make quarterly tax payments. As freelancers have no employer, they have to use estimated tax.
These quarterly payments are calculated according to Form 1040-ES (Estimated Tax for Individuals). You will also need your annual tax return information from the previous year to submit the correct data. As a result, you will learn if you have to pay tax every three months.
Quarterly payments can be settled through the Electronic Federal Tax Payment System or Form 1040-ES can be mailed.
In 2020, the first term for estimated tax payment was extended from April to July 15, 2020, as a result of the coronavirus pandemic.
Summing up all the above information, you can start a legal path in the world of freelance and work with large customers and serious projects without fear of a sudden tax audit or attention from the Internal Revenue Service.
A good suggestion to all freelancers is to set aside some amount from the income for taxes. It is recommended to save 25-30% of each check.
You may open a separate savings account which would help you avoid penalties for underpayments. If you’re still unsure and have some questions on the best way to go about filing, we’d recommend working with a professional accountant to help make the process as smooth as possible.
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