Self-employment income applies to both independent contractors (those who receive Forms 1099) and sole proprietors. Understanding how the income affects tax filing is important all year, not just at tax time. Take note of the following six tips from the IRS regarding self-employment income:
- Part-time work – Any work that pays you is considered income. So any side jobs, whether related or not related to your regular job, should be reported as self-employment income on your tax return.
- Allowable deductions – Keep excellent records and all business-related receipts to deduct necessary and ordinary business expenses. Necessary expenses are those that are helpful and proper for your trade or business. Ordinary expenses are those that are common and accepted in your industry. You must keep actual receipts, or a copy of the receipt. A credit card statement with the transaction won’t hold up in an audit.
- Deduction timing – Most expenses are deducted in the same year you paid or incurred them. However, you must ‘capitalize’ some costs. This means you can deduct part of the cost over a number of years.
- Schedule C – The IRS says, “An activity qualifies as a business if your primary purpose for engaging in the activity is for income or profit and you are involved in the activity with continuity and regularity.” Such business activity requires filing Schedule C, Profit or Loss from Business with your Form 1040.
- Self-employment tax – If you make a profit, you may have to pay self-employment tax that includes Social Security and Medicare taxes. This is in addition to federal income tax.
- Estimated tax – It’s important to anticipate self-employment income because of the need to make estimated tax Estimated taxes are paid quarterly, because there is no automatic withholding for independent contractors or sole proprietors. Failure to pay enough tax throughout the year results in a penalty on your annual return.
One of the benefits of sole proprietorship or being an independent contractor is the number of write-offs/deductions that qualify. We wrote an article last March that still applies: 5 Money-Saving Tax Write-Offs for the Self-Employed. Our news archive is a great source of information on many topics that apply to business or personal finance and taxes. Just search by topic.
Additionally, the IRS has a helpful page for the Small Business and Self-Employed on IRS.gov.