If there’s anything every independent contractor or freelancer filing 1099s in America wants to know right now, it’s the cheat code to pay lesser taxes. If there were a magic wand you could weave to make the IRS forget all about your taxes forever, you wouldn’t hesitate one bit to use it. But like the moon landing, only a few people have been able to hack the code to pay less taxes legally. And you might just be one of the few if you stick to the end of this blog.
Back To The 1099 Basics
Simply put, a 1099 form is an IRS form that freelancers and independent contractors receive from the companies they work with. If you receive a 1099, you’re expected to document how much money has been paid to you during a tax year.
Whether you earn little or a lot of money, the IRS requires freelancers and independent contractors to report all sources of income and pay taxes owed to comply with the tax law. If you’re making money outside of traditional employment- independent contractor or freelancer- you will most likely need a 1099 form.
In addition, the new IRS reporting law requires you to report payments of $600 or more as against the previous threshold of at least $2000.
To fill out your 1099-MISC Form correctly, you need to include certain vital information, such as the money earned from each client. All income reported on the form is typically subject to self-employment taxes, which is why you should ensure that there are no discrepancies between what is reported and what your clients deposit in your bank account throughout the tax year.
Do Independent Contractors And Freelancers Pay More Taxes?
Unfortunately, most independent contractors and freelancers tend to pay more taxes than regular employees. The reason is that for W-2 employees, both the employer and the employee bear the cost of Social Security and Medicare taxes. The employers withhold 7.65% of employee’s paychecks for Social Security and Medicare taxes while the employer is required to pay 7.65% to the IRS for the same.
As an independent contractor or freelancer, you’re typically regarded as a self-employed individual by the IRS, meaning you’re responsible for a list of tax bills, from state taxes (if you don’t live in a tax-free state) to Federal taxes, 15.3% self-employment tax, and a whole lot more.
Because you have no employer to share the tax burden with, you’re left with a higher percentage of income taxes than a traditional W-2 employee.
In addition, generally, you’re only required to pay taxes when you earn above the standard deduction amount of about $12,000 for single taxpayers and $25,000 for married couples. However, because self-employment income is taxed differently than other forms of income, the threshold for paying taxes as a 1099 worker starts at $400. This applies to every self-employed income, whether it’s just a side gig or a full-time business.
How To Avoid Overpaying Taxes On Your 1099
As complex as taxes are, the IRS has also made provisions for tax credits and deductions for independent contractors that can significantly reduce or avoid taxes altogether. This is why understanding the intricacies of tax filing is crucial to managing your tax liability.
For one, your self-employment tax only applies to your net profit, not your gross income. The reason is that even the IRS understands that business owners incur many costs. As a result, the IRS allows you to write off anything related to your business expenses before calculating your taxable income.
In clear terms, your taxable income becomes the difference between your total gross income and your business expenses. By deducting your business expenses, you can reduce your taxable income and self-employment tax liabilities.
What Can You Write Off?
Generally, writing off your business expenses is the most effective way to reduce your tax burden. The secret code is claiming all that you qualify for to protect yourself from overpaying taxes. In addition to specific forms you might have to fill to write off your tax bill, don’t forget to complete your 1040 to claim other tax savings. You can claim your tax write-offs on top of your standard deduction, even if you earn less than $12,000. Here are a few tax write-offs that can help you improve your bottom line
- Deduct Your Self-Employment Tax From Your Income Tax.
While this may seem impossible, it is 100% legal to deduct your self-employment tax from your income tax. You can claim it right in your schedule SE. The form SE works with your Schedule C and will help you take full advantage of your tax-saving opportunities. If you forget to claim this deduction, the IRS may send you a letter to correct the error and refund the difference. While you’re to pay both the employer and the employee portion of your FICA taxes, you can write off the employer’s portion of your taxes when filing your income tax return.
- Reduce Your Tax Bill By 20% With QBI.
If you haven’t claimed The Qualified Business Income (QBI)before, then you’re leaving a lot of money on the table. Introduced in 2018, the QBI deduction is a tax break that allows freelancers, self-employed individuals, and small business owners to cut down up to 20% of their taxable income. To qualify for the full QBI deduction amount, you have to earn less than $326,600 for married couples filing jointly or less than $163,300 if you’re filing any other way. To claim your QBI, you need to fill out Form 8995, which is used to calculate your deduction and claim the savings you qualify for.
However, if your income is higher than $170,050 as a single taxpayer or $349,100 for couples filing jointly, you’ll have to use Form 8995-A, which allows high-income earners to calculate deductions and claim the savings they qualify for.
- Reduce Your Income Taxes With Your Self-Employment Health Insurance
While most employers pay a portion of their employee’s health insurance plan, you can also get the same tax benefit as a self-employed individual. You can deduct the cost of your health insurance on your taxes, but unlike most business expenses, you can’t list it on your Schedule C with the rest of your write-offs because it’ll reduce your income tax instead of your self-employment tax.
- Put Some Money In Your Retirement Account
One of the best ways to lower your tax bill is by putting money into your retirement account. As a self-employed person, you have various options for retirement plans, such as a Solo 401 K, SEP-IRA, or SIMPLE IRA. You can defer taxes on contributions to your retirement account until you withdraw it. While not every independent worker can make enough to contribute to a retirement account, it’s a worthy long-term investment that can boost your bottom line significantly.
There are no two sides to achieving your tax success; the only way is the legal way. Unless you want the IRS to send you an unwanted audit notice. The best thing you can do for yourselves is to file your taxes accurately and educate yourself on all the tax credits and deductions you qualify for so you can put more money in your pocket and protect your income from taxes.
Looking for more ways to reduce your taxes legally? Book a free consultation with the Tax Goddess team.