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So Now You're A Freelancer.  What Next?
Like most people, you’ve spent your career as an employee, receiving a paycheck each period and a W2 to include with your tax return at year end. Now you’re a freelancer. What’s different?

Aside from the need to be responsible for generating your own income, and having some additional requirements to track income to report on your tax return, there are some more practical changes most freelancers can be mindful of to maximize business expenses and reduce taxes. As a freelancer, you are now both an individual and “a business” in the eyes of the IRS. Here are some tips and considerations that apply to most freelancers.

Before we start, the following disclaimer is important because reading the next paragraph could mean the difference between taking action that is very beneficial and making a huge mistake. Read this next paragraph multiple times!

No one at The Numbers Edge is a tax specialist. We do not stay up on the latest nuances of the tax law from year to year, so it is certainly possible that our advice could become outdated and irrelevant without our knowledge. We speak about tax strategy in general for situations that might apply to a lot of people, but may not apply to you specifically. There are many factors that might cause a tax strategy that works for one person not to work for another, such as whether your business runs at a profit vs. a loss; if you itemize deductions vs. take the standard deduction; if you have a lot of dependents vs. none; if you have a high income earning spouse vs. not; what state you’re in, etc. Always talk to an expert in taxes who understands your situation and tax law and can provide advice. Everything related to taxes discussed in our book, on The Numbers Edge website, or by our team is intended to help you ask your tax expert good questions. We don’t and can’t provide definitive answers. If you need a referral to a tax expert, just ask.

Got it? Great! Now on to the important stuff.

All expenses that are “ordinary and necessary” in the course of your business should be tracked carefully, because they are now a deductible expense on your tax return. 

As a freelancer, you will be taxed on your business net income, which is the money you receive from your work, less the expenses that were ordinary and necessary in the course of operating your business in order to generate that money received.

Expenses that should be tracked and are tax deductible for many freelancers:

● All costs associated with having a cell phone, including the monthly cost for your phone service if your phone is an important part of your business activity. If you were to purchase a new cell phone, that would be a business expense. If you were to purchase any accessories for your cell phone or need to repair your cell phone, that also would likely be necessary for your business, if you’re required to have a cell phone for your work as a freelancer.

● Similarly with your computer - if you were to purchase a new computer to be used for your consulting business, that would be a business expense - or software to go on the computer that facilitates your work as a freelancer. Microsoft Office or a paid dropbox subscription probably would be deductible, for example, if those things are directly related to your work and therefore are ordinary and necessary in the course of your business. Games and software that has nothing to do with your business would not be.

● If having a home internet connection is necessary for your business activity, than the cost of your internet is “ordinary and necessary” in the course of your business.

● When you have meetings with others to discuss the business, the mileage you incur to go to that meeting (round trip) are deductible at the IRS published standard deduction rate expressed in cents per mile. If you were to take an Uber to that meeting, that cost would be deductible in lieu of mileage. If you were to have that meeting at a restaurant to discuss business, any cost you incur at that restaurant would be deductible as “meals” expense.  

● If you were to go to another location specifically for the purpose of business - like a baseball game or out of town for a weekend, that cost of that travel would be deductible as ordinary and necessary in the course of business, but the cost incurred directly to “entertainment” is not allowed. So the cost of your sporting event tickets or a round of golf is not deductible, but the cost of your food or your parking would be - again, assuming that the purpose of this meeting or event is clearly for business. If anyone from your family joined you, the additional costs for them would not be deductible.

It is always best that we document what the business purpose of each expense is, because it could be tough to remember later.

● If you are at a restaurant for a business meeting, you should write on the receipt what your topic of discussion was and archive that receipt somewhere.

● If you were to purchase internet access on an airplane, you should document what consulting work you did using that internet service so that you couldn’t ever be accused of taking a tax deduction for an expense that wasn’t really used for a business purpose.

● Document, document, document. Keep, organize and file all of your receipts. You should assume that one day an IRS auditor is going to be questioning what this charge was for, and whether this charge was truly ordinary and necessary in the course of business. Write notes and keep documentation such that you would be able to justify that transaction as a business expense if it ever came into question.

As a freelancer, if your business income exceeds the amount you need to support your lifestyle, you may be able to put significantly more money into a 401k than an employee. See our separate post about Solo 401(k) programs, or talk with your tax expert about the wealth-building opportunities available to a freelancer or business owner that are not available to everyone.

As a business, you may find it tax-advantageous to create a separate legal entity through which your income and expenses would flow, in essence separating yourself from your business into two legal entities. This is discussed in Part 1 of our book, The Playbook to Managing Your Business by Numbers. In short, if you are generating close to, or more than $100,000/year in income from your work, you should be discussing with your tax preparer whether will reduce your taxes to file paperwork with the IRS to be taxed as an S-Corp and how to adjust your accounting accordingly.

There is lots more to read and learn about being a freelancer, and plenty of information on The Numbers Edge online plus the overall internet. Hopefully the information here is enough to get you started. Good luck in your new endeavor!
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