When you are your own boss, you have to pay all the expenses that a business owner would take care of, but also receive access to tax deductions for self-employed. This is good news, considering the average business expense you will likely have to deal with.
The problem is that not every person on a qualified business income knows how to claim these tax deductions. What can you claim, precisely? And how much can you deduct by the end of the tax year? Well, you should read on to find out.
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What Is the Standard Deduction for Self-Employed?
In the current tax year, self-employed people, whether they are single or married, can claim a standard self-employment tax deduction of $12,400. This standard deduction is applied every year, regardless of what your net earnings are.
How Much Should I Deduct for Taxes for Self-Employed?
As a self-employed person, you should deduct as much as the self-employment tax rate allows you to. Currently, that tax rate is 15.3%, all of which goes to Social Security and Medicare taxes.
12.4% that is reserved for social security (disability insurance, survivors, and old age).
2.95% that is reserved for Medicare (i.e., your hospital insurance).
Under typical employment, these taxes would be deducted from your adjusted gross income. However, now that you are self-employed, you need to extract it yourself from your business income.
What Deductions Should a Self-Employed Claim?
People gaining their earnings from self-employment have a variety of deductions that they may claim from the tax bill. There are a ton of tax deductions commonly missed by self-employed folks. Here is a list of tax write-offs that may help for at the end of the tax year.
Note: You can track your write-offs with a tax deductions worksheet for self-employed workers. It's free and easy to download. However, if you don't want to record your expenses manually, then try Bonsai Tax. Our app will scan your bank/credit card statements to discover potential tax deductions and maximize your tax savings. Users typically save $5,600 from their tax bill. Try a 7-day free trial today.
That's right, self-employment tax may be deducted as a business expense. If you were still on your 9-to-5 job, your boss would handle this tax and both of you would split the deductions. The extra deduction would then go to your boss to cover their half of the payment.
However, with you being your own boss, you would have to pay that self-employment tax all by yourself and then collect your deduction. The total rate is 15.3%, which will be split between Social Security and Medicare (12.4% and 2.9% respectively).
That being said, you can deduct half of that self-employment tax - the part that would have otherwise gone to your boss. You'd end up only having to pay 7.65% when handling the tax bill.
Home Office Deduction
Whether you are a self-employed individual with your own small business or you are just someone doing some freelancing work alongside your 9-to-5 job, you might be able to get your hands on a home office deduction - provided you are smart about the way you are arranging your home.
To collect these deductible business expenses, you will have to prove that you are regularly using that particular side of your apartment or house for moneymaking. Once you do so, then you may deduct income taxes against your net earnings.
For instance, let's say that you have a room that you use for business purposes. You may deduct the mortgage interest for that room, utility costs, maintenance and repair, and other items you'd have to pay for in your home office. If a window gets busted in the said home office, you may claim business deductions for that as well.
Protecting your business can also make you eligible for self-employment tax deductions. Schedule C on 1099 concerning your taxable income features a section on that matter, allowing you to deduct your insurance premiums.
These insurance premiums include business insurance, employee health insurance, dental insurance premiums, or employee accident insurance. You need to consult Publication 535 by the IRS to see all the details.
When dealing with self-employment taxes, you may also deduct your office supplies. All the everyday items that you use in order to conduct your business can be claimed using self-employment tax deductions.
This includes but is not limited to pens, paper, staples, and other similar items that you use during day-to-day business. These are deductible during the year that you buy them, which means that you will have to file for tax claims by the end of the tax year.
Larger items such as special equipment or computers may also be deducted, but you'll need to do so in the year that you buy them. Also, if the items are usable for more than one year, then the IRS will not see them as assets - which means that over time, they will begin to depreciate.
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Vehicle or Mileage Expenses
Some self-employed people do not need a car. For instance, a marketing freelancer would only need a computer and a desk in their home to do their job. However, other people's freelancing work might take them to different areas, meeting clients or picking up necessary items.
You may deduct a little over $1 for every two business miles that you drive with your car. This can be done as long as you can prove it was not a personal expense and that you conducted those miles for business purposes.
You need to keep a receipt of your actual car expenses as well. This includes things such as gas, licenses, depreciation, tolls, oil, garage rent parking fees, lease payment, insurance, registration fees, tires, and repairs.
The actual expense method needs to be used anyway, especially if you are using more than five cars for business purposes. You may also collect deductions for a leased car, but you'll have to consult with your tax bill. The IRS Publication 463 can give you information on the rules for lease payments.
The qualified business income deduction is one of the newest tax deductions out there. People relying on self-employment and handling their own business expenses can claim a portion of their income taxes.
If you have taxable income (i.e., business income plus whatever other source of income you may have) that is below $163,300 as a single individual or $326,600 as joint filers, then you'll be able to claim 20% on your taxable business income.
Even if the income is above that limit, you may still be able to deduct certain pass-through deductions. However, this will depend mostly on the nature of your business. For some businesses, the deduction may phase out.
Startups may require a fairly significant capital - which means that tax time will affect you here as well. When handling a startup, you will have to deal with legal fees, market research, technology, and other associated costs. Beginning small businesses can be expensive, but the self-employed can get tax breaks for business start up costs as well.
The Internal Revenue Service allows you to deduct startup expenses going as high as $5,000. With that in mind, the deductions may also be reduced when the startup expenses go past $50,000.
It can be very expensive to get your name out there, which is why you are eligible to get tax deductions for advertising as well. Schedule C offers a line where the self-employed can deduct the costs.
The type of advertisement that can be deducted will also matter. For instance, you may deduct social media promotion, billboards, online banner ads, business cards, and print media. However, you won't be able to deduct lobbying expenses or advertising that is intended for a political party.
Note: Check out our cheat sheet for tax deductions list so you don't miss any potential write-offs. If you don't want to manually track your receipts, try Bonsai Tax. Our app will automatically organize and record all your tax deductions for you at the push of a button. Users typically save $5,600 from their tax bill. Try a 7-day free trial today.
Memberships and Subscriptions
If you have a membership or a subscription to an organization or a program, then you may claim a tax return for that as well. Bear in mind that only expenses related and necessary to your business can be deducted.
For instance, if you are in the travel industry and are part of a travel-related club that is beneficial for your business, then you may get a deduction for it. You cannot get a deduction for, say, a gym membership, simply because you believe it would make you look nicer (there are some instances where you can deduct haircuts, however).
Subscriptions to software, magazines, and other necessary services for your business may also be deducted. Once more, the subscription must be necessary for your business; otherwise, it might trigger an audit.
Loan and Credit Card Interest
Your credit card statements might hold a lot of opportunities for deductions. The only condition is that it needs to be in your name, for business purposes.
For instance, you may be able to get a tax return on interest accrued for a purchase deemed a "business expense." You can get those deductions for the self-employed, as long as the credit card used is in your name. You cannot claim the actual expenses if you use someone else's credit card unless you are joint filing.
To make the process easier, you might want to have a separate credit card for work than the one for personal purposes. It will make it easier for you to keep track of all the business expenses.
A self-employed taxpayer can also deduct their business travel expenses, as long as they can prove that they made that trip for business purposes. In that sense, the business purpose must be well-grounded. You can't make a Skype call from Disneyland and claim that it's a work trip.
Many people try to claim non-business costs and various entertainment expenses. However, if they are audited, they might find themselves in a great deal of trouble. For it to be a business trip, at least 50% of the expenses need to be work-related (25% if you are going overseas).
When traveling for business, you can deduct your transportation costs, accommodations, and various work-related expenses that are considered necessary. Remember the keyword "necessary." Lodging can be deducted, but additions that are not necessary will not be deducted (i.e., a sudden urge to order video games in your hotel room).
Business meals can also be deducted, both in your geographic area and as you are traveling. For example, if you are having a meal with a client or an employer for a project, then you may claim 100% of the expenses for food and drinks.
Things change when you are outside of a restaurant, although certain conditions have to be met. For example, while you may not be able to claim the cost for groceries while you are at home, you may claim 50% of them while you are traveling for work.
Even the burger that you eat at the airport while waiting for your flight can be deducted. You just need to be careful to keep the receipt for it.
Internet and Phone Costs
As a self-employed individual or an independent contractor, you'll probably have to talk to your clients a lot. Whether you do so by phone or via an Internet connection, you may deduct a phone bill or full internet costs.
Bear in mind that if you are planning to deduct these costs entirely, you may only do so if you have a dedicated line - such as a business phone or dedicated Internet connection. Otherwise, the Internal Revenue Service will usually deem it as a personal expense.
At the same time, deductions can also be made even if you do not have a dedicated line. You may simply deduct the average percentage that you use for business. However, it is recommended to have a different dedicated line, as it is much easier to keep track of the deductions this way.
For expenses directly related to education, you may claim self-employment tax as well. After all, if you are planning to run a business, you have to be smart. As a self-employed taxpayer, you will be glad to know that education is tax-deductible as well.
Bear in mind that you may only get a tax return for this if the education you follow qualifies as work-related. In other words, the skills that you learn there should be usable in your present work. You will not be able to claim small business tax deductions if the courses aim for a change in career or something that is not directly related to your business.
In this case, tax-deductible are things such as books, tuition, lab fees, supplies, or transportation. Anything can be tax-deductible, as long as those expenses are directly related to continued education.
As a self-employed individual, your boss will no longer add to a retirement plan for you. You will have to make those contributions yourself. You can add your pretax money into a SEP plan or a silo 401(k). Both options have an annual limit that is higher compared to the standard retirement account.
The tax paid there can be deducted as well. You may want to consult the tax laws, as different ages might allow for different tax returns.
How Do I Get the Most Out of My Taxes If I'm Self-Employed?
To get the most out of your taxes, you need to know exactly what to take advantage of. Here are some tax hacks or options that will help you get the most self-employment tax deductions.
Check Your Tax Benefits
Depending on the circumstances, you may be eligible for tax benefits. For instance, in response to the crisis caused by the coronavirus pandemic, a lot of independent contractors received tax benefits in order to make the process easier.
Check out for other benefits and premiums as well. For instance, if you are eligible for health insurance premiums, you might be able to get a little extra on your self-employment tax deductions.
Itemize Instead of Getting Standard Tax
If you can handle itemizing your deductions, you may want to try doing that rather than claiming your standard tax deduction. In most cases, newly self-employed people with a qualified business income prefer to claim the percentage offered by the standard tax deduction.
However, some other expenses may push the percentage off what is offered for a standard tax deduction. By itemizing these additional expenses, you may be able to get more out of your yearly taxes.
Claim a Relative or Friend You've Been Supporting
If you are supporting a family member, a relative, or a friend, then you may be able to claim them as your dependents. There will be certain rules there, which will tell you whether they qualify or not, but regardless, this is a legitimate deduction for taxable income.
Remember Your Refundable Tax Credits
Tax credits are reductions of the owed tax. The refundable tax credit will permit access to credit that goes beyond your liability. The current earned income tax credit is an average of $6,666 for families that have at least three children.
According to the IRS, one out of five self-employed taxpayers who could claim this tax actually fail to do so. The taxpayers often miss these tax deductions simply because they are unaware of them or because they had changes in their net self-employment income.
Get Your Above-the-Line Deductions
If you are eligible for above-the-line deductions, then you might want to make sure to claim them. These self-employment tax deductions allow you to claim deductions for your self-employment taxes without necessarily itemizing.
Contribute to Retirement
That's right; if you contribute to your retirement account, you can get multiple benefits that can help you with your tax situation. Bear in mind that you have a deadline in order to make your IRA contribution, usually by the end of the tax year.
With this method, you may claim tax deductions going as high as $6,000 - even $7,000, if you are past the age of 50. Aside from this, self-employed individuals may also get saver's credit worth $1,000 (or $2,000, if you are claiming these deductions through a marriage joint account).
The Bottom Line
Self-employed individuals can receive a fair number of deductions, as long as they know what to claim. In most cases, the IRS makes it easy for people to understand what they can claim by using Schedule C. Very often, going for the help of a tax assistant can aid you at tax time, but you may also calculate the taxes yourself.