Working for yourself can be very rewarding on both a personal and a financial level, but going it alone can also be very taxing. Without an employer to do the withholding, you are on your own when it comes to settling up with the IRS, and if you make a mistake penalties and interest could await you.
As a self-employed individual or business owner, chances are you will be required to make quarterly payments to the IRS, but you do have some control over how large those periodic payments must be. Working for yourself can be taxing, but there are strategies the self-employed can use to lighten the load. Here are some smart and simple ways to reduce the high cost of being self-employed.
Fund a Retirement Plan for the Self-Employed
When you worked for someone else, you may have had access to a 401(k) or similar savings vehicle, but now you are on your own where retirement is concerned. As a freelancer or other self-employed individual, it is important to prepare for the future, and the tax code is set up to make it a bit easier.
Self-employed individuals and business owners have access to a number of generous retirement programs, each with its own contribution limits and tax advantages. If you are just getting started, you might want to check out the SEP-IRA, which works much like a traditional or Roth IRA but has higher contribution limits.
To save even more, look into a Solo 401(k) plan, the self-employed equivalent of the corporate plan. Solo 401(k) plans have even higher contribution limits, allowing self-employed individuals to save a significant amount of money and sharply reduce their taxes. You will need an Employer Identification Number (EIN) to open the account, and there are some minor recordkeeping requirements. Even so, the tax advantages can outweigh any small inconveniences.
Open a Health Savings Account
Health insurance is a major concern for the self-employed. Without the benefit of group rates and corporate sponsorship, self-employed individuals are left to the open marketplace, where high premiums and higher deductibles rule the day. These costs can really add up, but opening a health savings account can reduce the risk of unexpected medical bills while lowering your tax bill.
If you are eligible for a health savings account, you may be able to deduct the full amount of your contribution from your taxable earnings. That could be a big help when tax time rolls around, and the money you have socked away could help you pay for medical costs your less than generous health insurance plan does not cover.
Keep Track of Your Expenses
As a self-employed individual, you are entitled to write off certain expenses, including the cost of supplies used in your business. If you are a freelance writer, that could mean writing off things like paper, printer ink, research subscriptions and the like. If you drive for a ride-sharing service or operate an Airbnb, it could mean writing off gasoline costs, maintenance expenses and other things related to your business.
You will be expected to back up the expenses you claim, so be sure to keep careful records, scanning receipts as you go, saving copies on your computer and cloud account and using a spreadsheet or accounting program to add it all up. You should not be afraid to take the write-offs you are entitled to, but be honest about what you claim and have the documentation ready should the IRS come calling.
Take the Home Office Deduction if You Are Eligible
If you work out of your home, you may be eligible for the home office deduction. This generous deduction is based on the square footage of your home office and allows you to write off the cost of things like utility payments and ongoing maintenance.
In order to qualify as a home office, the space you claim must be used solely for the operation of your business or self-employment enterprise. If you work in a quiet spot under the stairs or claim the kitchen table, you may be out of luck. But if you do have a dedicated space you should be able to claim the home office deduction without undue attention from the IRS.
Work with a Professional
Last but not least, you may want to work with a professional tax preparer. Even if you have done your own tax returns for years, you may not have the expertise to find and apply all the deductions you have coming. At the very least, run your self-prepared tax returns by a CPA or enrolled agent and ask for a second opinion. If the tax pro you hire finds you additional money, they will more than pay for the cost of their services and expertise.
Being self-employed can be great, but the high taxes can be enough to send you running back to the corporate world. If you want to retain your status as a self-employed business owner but avoid the high taxes, just check out the tips listed above.
Are you expecting a refund this year? Don’t blow it! Check out these Smart Uses for Your Tax Refund.