Everyone has to pay taxes, they just might not be coming out of your paycheck, especially if you are an independent contractor, sole proprietor, or freelancer.
Are you an independent contractor or have you hired an independent contractor?
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It’s important to be able to distinguish between whether you are an employee or independent contractor at a company. Often, these lines are blurred because you can be an independent contractor who works full time for one company. The best way to distinguish the difference is whether you receive a W-2 or W-4 rather than a 1099-MISC. If receiving a 1099-MISC you are probably an independent contractor. For more detail on independent contractors and hiring independent contractors, please select one of our options below:
So what taxes do you pay as an independent contractor? Independent contractors do not have taxes deducted from their payroll, so instead, you have to pay the Self-Employment tax.This tax is a Social Security and Medicare tax for those who own their own business or work for themselves. In addition, you will have to complete the 1099 MISC form and Schedule C form. One of the major differences that the 1099-MISC holds over a W-2 or W-4 is these taxes must be filed quarterly. If you own more than one business, you need to file separate Schedule-C forms for each company showing the deductions and income for that particular business. So if you drive for both Uber and Lyft you need to file a Schedule C for both. In order to file and figure out how much to pay you need to file Schedule SE for Medicare and Social Security.
Saving for Taxes
When you have to file taxes quarterly it’s key to make sure you’re saving the proper amount. A safe bet would be to set aside 25-30 percent of every paycheck or monthly income.
In the age of side hustles and contingent workers it’s important to note that this is considered being an independent contractor in many cases. From working as a salesperson in an MLM to freelance graphic design, taxes need to be paid. Take note, that employers will only send out 1099-MISC if you have been paid at minimum $600. If cumulatively you made more than that you should still claim all amounts when filing your taxes.
Work expenses, office expenses, and business purchases can be considered a tax deduction- within reason. These include: office equipment such as computers, printers, office supplies, duplicating services; business trips; legal and professional fees; and insurance. Really, anything you buy for the purpose of your business can be considered a deduction and therefore non-taxable income.
Deductions can expand to include your car, mortgage or rent, and phone and internet bills, however, this is where you need to be careful. For example, if you are deducting a portion of your mortgage you need to have a space that’s dedicated to your business. This cannot be the guest room that you usually use as an office, it’s an office that is only an office. On the plus side, whatever percentage of the house the office takes up can be taken off of all utilities as well as the mortgage or rental. Your home must also be the principal location in which your business takes place. If you work at an office 3-4 days a week you cannot deduct the cost of your home at all.
Deductions are removed from your initial income to produce the taxable income amount. In addition, when filing you Schedule C, you may qualify for the Schedule C-EZ if businesses expenses did not exceed $5,000, you don’t have any employees, and you do not file a home-office deduction.
Misidentification as an Independent Contractor
Just because you work from home doesn’t mean you’re an independent contractor. So how do you know if you’re self-employed? The best way to distinguish it is how your services are controlled. If you the employer has legal right to control how the services are performed, you are an employee and not an independent contractor. If you feel as if you are an employee rather than an independent contractor you can use Form 8919, Uncollected Social Security and Medicare Tax on Wages and determine your share of uncollected money due to the improper classification through your employer.
There are other indicators as well. You may own an LLC or be a sole proprietor, or are part of a partnership, overall you need to be in business for yourself. You are not an employee if you get to control and direct the results and direction of the work.
Information for Employers
The first item you as an employer needs to identify is whether or not the person is an employee or an independent contractor. If you misidentify an employee as an independent contractor you could be subject to pay the employment taxes for the worker.
If you take legal control over what the independent contractor can and cannot do in regards to their services, they are no longer an independent contractor and you now owe them the benefits of being an employee.
You must provide the employee with a Form W-9 if you have paid them more than $600 that year. This includes their taxpayer ID number (SSN or EIN), name and address. This form is a necessity for all non-employees so that the IRS can compare incomes for independent contractors. After this is completed you will give the independent contractor a 1099-MISC which they will use to completely their taxes.
This article is based on significant research, but should not be considered as legal advice. If you have additional questions, reach out to an accountant or tax professional.