Gig Economy Income Is Taxable
That applies whether you’re a $250-per-hour freelance consultant, an Uber driver or a full-time employee who does paid dog walking, tutoring or jewelry-making as a side hustle.
“People just don’t think of it as a business, and it is,” says Morris Armstrong, a tax pro in Cheshire, Connecticut.
Taxes May Be Due
Four Times A Year
With a regular job (the kind where your income is reported on a W-2 to the IRS), your employer withholds taxes from each paycheck. By contrast, if you’re self-employed, you’re responsible for paying into the system. If your gig income is from a side job, you can adjust your employer’s withholding using a W-4 form to take your gig income—and extra taxes due—into account.
But if you don’t have a job where taxes are withheld, you must figure out how much you’ll likely owe in taxes and pay in on a quarterly basis, using Form 1040-ES. The due dates for estimated taxes are April 15 (for income earned January through March), June 15 (for April and May), September 15 (for June through August) and January 15 (for September through December).
Even if your net income is modest, you may owe a surprisingly large amount because as a self-employed person you’re responsible for paying both the employer’s and employee’s share of Social Security and Medicare taxes—which comes to 15.3% of your net.
What if you don’t get around to paying quarterly estimates? You’ll face a big bill when you file your annual tax return, plus an interest charge (currently running 3%). Typically, you’ll report your business income as a sole proprietor on Schedule C (Profit or Loss From Business), attached to your 1040 tax return. You’ll also file Schedule SE to calculate those Social Security and Medicare taxes.
Deductions
Are Plentiful
You Must Document Expenses
Keep records. You’ll need a good system for tracking income and expenses. Set up a separate bank account for your business and use a separate credit card for business expenses—it makes tracking easier.
Keep receipts for everything and a log of miles if you use your personal car for business too. A ride share driver was recording his trips only from Point A to Point B. How about the 30 miles it took to get to Point A? Armstrong asked him. That’s a business expense.
In May, siding with the IRS, the U.S. Tax Court said that a freelance notary and paralegal who reported $400 in business income and expenses of $19,250 failed to substantiate the expenses and upheld an extra tax. Two lessons: The taxpayer bears the burden of substantiating expenses, and the IRS is more likely to demand your documentation when your expenses seem out of whack with your revenue.
Retirement Is
On You
The biggest mistake self-employed folks make when it comes to retirement? “They don’t put away anything,” says Ed Slott, an IRA expert in Rockville Centre, New York. If you’re newly self-employed, you might not have an employer-sponsored workplace 401(k) account anymore, but you still should be saving for retirement.
A Roth IRA is easy to set up and the best bet for most folks to get started. You can contribute up to $6,000 a year (assuming you have at least $6,000 in income), or $7,000 a year if you’re 50 or older. If you make too much to open a Roth IRA, you can contribute to a traditional pre-tax IRA and then convert it to a Roth IRA. In 2021, singles earning more than $140,000 and couples earning more than $208,000 can’t contribute to a Roth IRA.
A SEP IRA is the next step up. For 2021, you can put in up to 20% of your net self-employment earnings up to a total tax-deductible contribution of $58,000. You can set up a SEP for your self-employed business even if you participate in your employer’s retirement plan at a regular job. But be aware, every penny you put into a SEP IRA reduces the $6,000 or $7,000 you can contribute to a Roth IRA dollar for dollar. Those without a regular job and 401(k) may want to set up a one-person 401(k). You can read more tips on retirement savings here.
You can lower your tax bill by deducting certain legitimate business expenses against your self-employment income. That includes, for example, office supplies, business meals, health insurance, professional dues, car expenses and travel expenses.
Armstrong, from experience, divides people into two groups—those who want to write off all sorts of personal spending (“That’s criminal,” he says) and those who don’t know what they can legally write off. “That’s sad,” he says. “They’re losing out on legitimate deductions.”
As a self-employed person, you can also take the home office deduction, which since 2018 has been denied to regular employees, even if their employer wants them to work from home, say, because of the pandemic. To qualify, the home office must be a space you use exclusively and regularly for your business—so it can’t be your dining room table or a space your kids also use for their homework.
There’s a simplified option where you multiply the square feet (up to a maximum of 300 square feet) of your home office by $5, for a deduction of up to $1,500. Alternatively, under the regular home office deduction, you calculate the percentage of your home used for business and prorate allowable expenses like utilities, insurance and property taxes.
After you’ve figured your net, you’re likely to get yet another, even more significant deduction—20% of your “qualified business income” is deducted from your taxable income, provided that your total taxable income (for 2021) is under $164,900 for a single or $329,800 for joint filers. You’ll file a Form 8995 or 8995-A to claim this.
You’re required to report your net earnings from self-employment on your federal income tax return if it’s
or more in a year.
That’s true no matter how you’re paid—by check, cash, Venmo, PayPal or bitcoin—and even if you didn’t get a 1099 tax form from the person or people who paid you.
Self-employment income means you’ve entered a whole new world of tax rules, tax burdens and, fortunately, tax benefits, including new deductions and opportunities to save for retirement.