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Tax Benefits Of Being An Independent Contractor

Striking Out On Your Own Can Be Both Risky And Rewarding

The pros and cons of being an independent contractor

David J. Rubin is a fact checker for The Balance with more than 30 years in editing and publishing. The majority of his experience lies within the legal and financial spaces. At legal publisher Matthew Bender & Co./LexisNexis, he was a manager of R& D, programmer analyst, and senior copy editor.

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If you’re the adventurous, entrepreneurial type, then working as an independent contractor might be a great career choice for you.

Independent contractors are sometimes called ICs, consultants, freelancers, free agents, or contractors. Regardless of the label, all are essentially the same in practice, including a self-employed designation when it comes to U.S. tax purposes. That’s because the Internal Revenue Service has only two distinctions: an independent contractor or an employee.

Being an independent contractor has its advantages over being an employee. However, there are drawbacks to being an independent contractor as well. It’s important when considering independent contract work to understand the pros and cons of working as an independent contractor.

How Does A 1099 Contractor Get Paid

Independent contractors get paid in all the normal ways that are available to regular employees or businesses. Some may receive payment electronically on a project basis while others may contract their services on an hourly basis. There are also more formal arrangements where there is an agreement in place for services to be provided on an on-going basis for a period of time.

Are you a podcast host or a speaker? Have you provided a service or delivered a program for a school district or private organization. If so, you may have been asked to complete a Form W-9. Form W-9 is used to collect your taxpayer information so that organizations can maintain accurate records and report any payments made to you in a given year on Form 1099.Many contractors donât have a designated pay day in the same way an employee would. In some cases they may be paid upon completion of a product or service which for some independent contractors may be daily. Payday every day is a concept I can get behind! The main takeaway when it comes to payment, a freelancer has no tax of any kind withheld. Weâll explore exactly which independent contractor taxes you need to be on the lookout for later in the guide.

Estimating An Independent Contractors Federal Tax Liability

Figuring out exactly how much you owe in taxes can be challengingespecially if youre new to working as an independent contractor. Its not as simple as setting aside a specific percentage of your incomesay 25% or 30%because the amount youll ultimately owe depends on your tax bracket and the deductions and tax credits you may be eligible for.

Plus, your estimated taxes need to cover both federal income taxes and self-employment taxes: the independent contractors version of Social Security and Medicare taxes.

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The Benefits Of Being An Independent Contractor

An independent contractor is someone who is contracted to perform a service for another business as a non-employee. There are a number of benefits to being an independent contractor read about them below!

Benefits:

  • Maintain a good work/life balance
  • Earn more money
  • No tax withholding

Business Expense Deductions:

As an independent contractor you are able to write off multiple items on your taxes making your taxable income less . Examples are:

  • Physical Therapy Related Costs Licensure, Con-Ed, CPR, Liability Insurance
  • Operational expenses advertising, website costs, percent of monthly phone carrier cost, percent of internet costs
  • Supplies & Materials any items you need to conduct business, including office supplies, a desk/computer/phone , a theraband/treatment table, and any PT treatment supplies
  • Retirement Plans

For A Real Estate Agent

How to Pay Tax As an Independent Contractor or Freelancer

Felix is a real estate agent. He must have certain licenses and training in order to serve his clients. He could deduct those education classes and professional licensing fees. He can even write-off mileage if he must travel to meet clients. Here is a list of tax deductions for real estate contractors.

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Tax Deductions For Medical Expenses

The IRS allows a deduction for medical expensesbut only for the portion of expenses that exceed 7.5% of your AGI. So if your AGI is $50,000, you can only deduct the portion of your medical expenses that total over $3,750. If your insurance company reimburses you for any part of your expenses, that amount cannot be deducted. If insurance reimburses you in a future tax year for any portion of expenses claimed in the current year, you will need to add the reimbursement as income in the future year.

A portion of the money you pay for long-term care insurance can also minimize your tax burden. Long-term care insurance is a deductible medical expense, and the IRS lets you deduct an increasing portion of your premium as you get older, but only if the insurance is not subsidized by your employer or your spouses employer.

Another benefit is that you can deduct transportation and travel costs related to medical care, which means you can write off any bus, car expenses , tolls, parking, and lodging as long as the total exceeds the 7.5% limit for 2021. Keep in mind that you can only deduct up to $50 per person per night of lodging .

Contributions to health savings accounts are tax-deductible. If you have a high-deductible health plan , you can contribute up to $3,600 to an HSA in 2021 . In 2022, the limits rise to $3,650 and $7,300, respectively.

Legal And Accounting Services

Legal and accounting services are critical to keeping your business safe and running at its peak. Example deductions in this category include:

  • The cost of hiring a contract attorney, such as to review a non-compete agreement.
  • The cost of consulting with a tax attorney.
  • The cost of hiring a certified public accountant.

Itâs never fun to spend money on legal and accounting services, but itâs often necessary.

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How To Succeed As An Independent Contractor

Setting up your own business as an independent contractor requires an investment of time and energy, but the risk can pay off handsomely. For those with a creative and entrepreneurial spirit, the rewards will be more than just monetary.

To help you network, gain expertise, and receive discounts on insurance and other self-employment expenses, consider joining professional organizations such as the National Association for the Self-Employed. You’ll also find a bevy of resources on the U.S. Small Business Administration‘s website.

When youre starting, apply to agencies that can connect you with contract work. Remember, though, that these agencies may withhold taxes and collect other deductions from your paychecks, depending on your working relationship with the firm. Agencies may also charge you a commission, which will reduce your compensation .

Requires Minimal To No Supervision At All

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An employee and an independent contractor may perform the same amount of load and tasks. However, employees may give their employers more workload as most of them still need supervision and chastising when they are performing the tasks wrong. Independent contractors require at most minimal supervision if any. Since independent contractors are paid to finish a certain job for a specific time, how they complete it is not the primary concern of the business owner. There is no micromanaging but still getting the results that you wanted.

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Personal Income Tax Deadline

Your personal income tax deadline as an independent contractor is the same as it is for employees. All personal income tax, filed with Form 1040, is due April 15 of each year. If April 15 falls on a weekend or a holiday, they are due the next business day.

With your Form 1040, youll file your Schedule C, Profit and Loss from Business and your Schedule SE, Self Employment Tax.

If you cant file your taxes by the April 15 deadline, you should use Form 4868 to file for an automatic six-month extension. But thats only an extension to file your paperwork if you owe any taxes, youll need to pay them by the April 15 deadline to avoid being charged a penalty.

Fact #: Even If You Are A Legitimate Independent Contractor Under One Law You May Still Be An Employee Under Other Laws

The protections available under federal and state employment laws are generally available only to employees, and are generally not available to independent contractors. Federal laws have differing definitions of employment. Under the Fair Labor Standards Act , the Migrant and Seasonal Agricultural Worker Protection Act , and the Family and Medical Leave Act most workers are employees, but the definitions in other laws may be a little less broad. Therefore, it is possible to not be an employee under one law, but be an employee under a different law .

To help you better understand how different laws define employment as well as the benefits and protections these laws provide employees, please see the table below:

How Different Laws define employment, with benefits and protections for employees

Law:

Please visit the Internal Revenue Service’s “Independent Contractor versus Employee” page to learn more.

State Unemployment Insurance Laws

  • Unemployment insurance if you are laid off or otherwise separated due to non-disqualifying reasons and meet other eligibility requirements

Most state laws contain strict tests to determine whether there is sufficient absence of control by an employer that the worker is not an employee but an independent contractor. Information and contacts for state UI agencies are available at: .

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If you would like to speak with a team member immediately, we are available 24/7 via this form or viaphone toll-free from 6am 8pm EST M-F at:

The Pros And Cons Of Being An Independent Contractor

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Some independent contractors are consultants, agents, or brokers. Others might be creative professionals, technical wizards who are part of the start-up culture, models and actors, or even part-time Uber drivers. Whether you own a business or are a freelancer who provides services to other businesses, you are considered self-employed. This means you must handle your taxes differently than regular employees and are required to pay self-employment tax if you have net earnings of $400/year or moreSo what exactly are the pros and cons of being an independent contractor?

For income tax purposes, you will automatically be categorized as a sole proprietor, which is simply the default for small businesses. You dont have to pay to register your legal name with your state or with the IRS, and you dont need to necessarily form a corporation to file taxes. However, if you are using a name other than your legal name then you must officially set up a registered Sole Proprietorship or LLC.

As a 1099 contractor, you must regard everyone who hires you as a client rather than an employer. An independent contractor must treat his or her work like an entrepreneur would, which means considering the formation of a separate business entity.

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Ics Pay Less In Income Taxes

As tax season rolls around, being an IC starts looking more and more enticing. As an IC, you pay much less in income tax than traditional employees because no federal or state taxes are withheld, which means that you pay less income tax than employees earning the same amount. This is one of the greatest benefits of being a 1099 contractor.

Reporting income looks slightly different for ICs. Instead of paying state and federal income tax, ICs must pay estimated taxes to the IRS four times a year . ICs need to budget for this to avoid running into financial issues.

Not paying estimated taxes on time could result in huge penalties and a higher bill than you expected. Additionally, the IRS will impose a fine if you underpay your taxes as an IC. This comes in the form of a percentage rate for each day you are overdue on your taxes. Every year the percentage is different, but it usually ranges from 6% to 8% annually.

An Independent Contractor Has Good Work

W2 employees spend a huge part of their day in the office and have very little time for other things. This schedule makes it hard to balance work and other life-related activities like going to the gym or spending time with family.

1099 employees have a better work-life balance since they control their schedules. Freelancers can plan their work to ensure they have enough time to exercise, take kids to school, and for other social interactions such as catching up with friends and family.

Balancing work and life has immense mental and physical benefits, which will also help increase your productivity as a 1099 employee.

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The Complete Guide To Independent Contractor Taxes

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Paying business taxes as an independent contractor can be tricky. You have to file additional forms, make sure youre paying the government enough during the year and pay a self-employment tax.

Example Of A Sole Proprietorship

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Most small businesses start as sole proprietorships and evolve into different legal structures as time passes and the company grows.

For example, Kate Schade started her company, Kates Real Food, as a sole proprietor. The company creates and sells energy bars and began as a local vendor in Jackson Hole, WY. The sole proprietorship currently has a production facility in Bedford, Pa., and can be found in more than 4,000 retailers.

A sole proprietorship has no separation between the business entity and its owner, setting it apart from corporations and limited partnerships.

Since launching in 2005, Kates Real Food has grown to supply accounts across the country. In response, Schade restructured the business from a sole proprietorship to a corporation to take on investments and expand, a natural step for a growing business.

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Lesser Or No Overhead Expenses

Since there are no communal spaces to be used as offices, no equipment or tools to be provided, and other expenses that a business can incur, as with having employees, the company does not have to worry about these overhead expenses. Independent contractors are also independent business owners to have their own office, equipment, tools, and trained people to work on your contracted job.

What Are The Benefits Of Being A 1099 Employee

Related

If you have marketable skills and value autonomy, you may enjoy working as an independent contractor. As per Internal Revenue Service rules, employers send a 1099 form to all independent contractors who earn more than $600 in any given year. If you are an individual collecting wages in this capacity, you are known as a 1099 employee. Compared to regular employees, independent contractors, such as freelance writers, have more control over their scheduled hours.

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Overview: What Is An Independent Contractor

Independent contractors are one-person businesses that provide goods and services to clients for a fee. People and companies engage independent contractors for a specific work purpose, relying on their expertise to complete the work.

Whereas employers can have significant control over their employees work processes, a business cannot dictate how and what its independent contractors do to achieve the businesss desired result.

The U.S. government has been cracking down on independent contractor classification in cases where workers could be treated more like employees.

You might have heard about how the California legislators have impugned the way Uber and Lyft classify their drivers. Check out our guide on independent contractors vs. employees for more on the difference between the two classifications.

One major difference is that businesses dont pay or withhold payroll taxes for independent contractors, who are also called 1099 contractors. As self-employed workers, independent contractors remit taxes on their own.

Additionally, since independent contractors are business owners, they can take tax deductions for expenses incurred to complete their work, just like any other business can.

You Miss Out On Employee Benefits

How to Pay Tax As an Independent Contractor or Freelancer

Many employers have several benefits for their workforce, which you will miss out on when working independently. For example, many organizations will have life and disability insurance and a retirement plan for their employees. Also, a full-time employee can enjoy other things like unemployment benefits, sick days and workers compensation.

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Real Estate Deductions Are Capped

Because the Tax Cuts and Jobs Act limited the amount of property tax filers can deduct, you cannot use the home office deduction to deduct the full amount of your property tax if it exceeds $10,000.

There are a variety of expenses that can be deducted when a person works out of their home, whether it be as a remote employee or because they are self-employed. A certified tax specialist can review available deductions and make sure that all items that are being claimed are valid.

For instance, if this freelance writer didnt have a dedicated office space and instead worked out of the coffee shop around the corner from their house every day, they wouldnt be able to claim the utility and mortgage associated costs as part of their home office deduction. There may be additional deductions available to them, like the coffee and donut they purchase each day while working out of the shop.

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