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  • Dennis#MD
    Dennis#MD

    Tax For The Self-Employed: Starting Out

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    Whether you’re a large, multinational corporation or an individual contractor, taxes are a key part of your business.

    In fact, the biggest companies in the world spend millions to understand how to minimize the taxes on their business.

    But, most small or medium-sized businesses can’t afford expensive accountants for this. This is especially true for those just starting out.

    So, taxes are an unavoidable issue for your finances. This is why you should always be aware of how to manage your financial records and taxes. This will ensure your tax season is as efficient as possible, and you pay the correct amount to the revenue service.

    In the interest of clarity, we’re assuming that you’re working as a sole trader or proprietor and not a limited company.

    While some companies can lead a freelance agency, nearly all freelancers are individual contractors and sole traders.

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    Hire an accountant

    This may seem like an obvious step for any self-employed person. But, a lot of people neglect to use an accountant to create and maintain their financial records accurately.

    This is because tax law is one of the most complicated things to understand. It also changes regularly.

    An accountant understands these laws and regulations and how to maximize your profitability and minimize your taxation. A lot of accountants are very affordable and convenient nowadays too.

    So, to get the most efficient tax rate and ensure you have a more enjoyable tax season, hire a professional to help you.

    Know what your tax “season” and timeline is

    Another seemingly obvious tip that often flies under the radar of many newcomers to self-employment or freelancers. Part of the reason for this is that a freelancer may not follow the usual tax schedule of a self-employed person.

    Most self-employed individuals pay their taxes quarterly in estimates. This means that they have to estimate how much taxes they will owe the IRS and pay it every three months by a set date.

    However, if you owe less than an estimated $1,000 in takes each quarter, this likely may not apply to you. So, become familiar with your tax schedule and when you’ll need to pay to avoid any nasty fines.

    Understand the types of tax you may be subject to

    Different businesses and individuals are subject to different taxes. Knowing these is key to making sure you don’t get fined for failing to submit tax.

    For most freelancers, or self-employed individuals, the most common taxes will be:

    • Income tax - This is taken from the wages you pay yourself and is something every person has to pay.

    • Self-employment tax - This tax is taken from self-employed individuals to cover social security and related benefits like medicare. These should follow state rates, but may occasionally follow federal rates.

    • Excise tax - This tax is put on certain equipment and products that may be used or made by you if you work in certain industries or jobs. But, most freelancers won’t need to worry about this one.

    Compartmentalize your incoming and outgoing revenue (and accounts)

    This is partly what an accountant is for: to help you distinguish between personal and business income and expenses. But, the less work they have to do, the more money you can save.

    So, you should always organize your transactions into that of business and personal. This can easily be done by creating a business account and getting a debit and credit card for this account. You can then have clients pay into this account.

    Then, just make sure you only use your personal account for transactions that have no link to your business.

    Make your lifestyle more tax efficient

    Certain aspects of your personal life will always intertwine with your business. Use of your car and home are good examples. You may use your car for traveling to work or have a home office.

    These can qualify for partial tax deduction depending on how they are used, and how frequently they’re used, for business purposes. This is especially true for professions like taxi drivers and rideshare drivers.

    So, installing a formal home office and using your car for work as much as possible may help you become more tax-efficient. There are plenty of guides to help with tax deductions for rideshare drivers and other professionals. This will help you find out if your home office or car use qualify for tax deduction, and how much you can deduct.

    Make it easy to record your transactions

    Even with a business account, many people can let some of their transactions slip by unrecorded. This means that many expenses can go unaccounted for. On top of this, there may be parts of some expenses, like tax, that can be deductible from an otherwise non-deductible bill.

    So, be sure to record all of your transactions, even personal ones. This is easily done with apps that let you take pictures or scan receipts for safe record.

    Frequently Asked Questions

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    What happens if I’m late paying my taxes?

    If you file a tax return later than its due date a fine will be applied. This will usually equate to around $135 or 100% of the unpaid tax amount. However, they may consider it a failure to file or pay, which is discussed below.

    What happens if I fail to file for or pay my taxes?

    Much like if you're late paying your taxes, there will be a penalty or fine given for failure to pay taxes. The IRS will likely add a 5% surcharge on your estimated tax rate each month, except for special cases. This 5% surcharge will accrue until its at 25% of your estimated tax.

    How do I pay tax penalties?

    You can make payment directly to the IRS via bank transfer, credit or debit card, or even cash transfer. You can also usually pay in installations over around 120 days.

    What can I claim as an expense and what is tax deductible?

    This is a very complicated question and the answer can vary. Usually it is anything that is directly related or essential to your work or running of your business. Full guides for different businesses can be found online. You can also consult an accountant.

    What if I work (online) abroad?

    Generally, you will just need to pay taxes in the country you're working. But, if you make over $102,100 per year, you will also need to declare it to the IRS and pay taxes to them too. You will also need to declare any bank account to which this amount is being paid into.

    No matter how you choose to make a living – taxes are unavoidable. Make sure that you’re up to date on everything you need to know about filing your taxes. You don’t want to run into any trouble come tax season.

    Edited by Dennis#MD

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