Money & Debt

These days, everyone knows someone with a freelance job. The job might be driving an Uber or Lyft, renting out a room on Airbnb, or performing short jobs on Task Rabbit or Instacart. However, most people are not aware of the tax obligations you take on when you accept one of these positions. This article will cover the different responsibilities for common freelance jobs.

Employee vs. independent contractor

Your job might be labeled as full-time, part-time, contract, or freelance. But the most important question from a tax perspective is whether you are considered an employee or independent contractor. The answer affects who is responsible for paying taxes, and when. A general rule is that if your company can control not only the work you do, but how you do it, then you are considered an employee. Otherwise, you would be considered an independent contractor.

Companies are required to withhold taxes from the employee’s paycheck and pay those to appropriate tax authorities. This is not the case for an independent contractor. Companies do not withhold any taxes from payments to independent contractors.

If you are an independent contractor, you need to pay the full amount of taxes owed by you to federal, state, and sometimes local authorities. Your company won’t cover any of the costs.

Most freelance workers are classified as independent contractors. This includes workers for Uber, Lyft, Aribnb, Task Rabbit, and Instacart. Ask the company how they classify your employment if you are not sure.
 

Income

As long as you receive money from a service, you are earning income. This income may be taxable, even if you’re not an employee.

Independent contractors are required to figure out how much they owe in taxes. The independent contractor tax rate or self-employment tax rate is 15.3%. The rate consists of two parts: 12.4% for social security (old-age, survivors, and disability insurance) and 2.9% for Medicare (hospital insurance). If you were considered an employee, you and your company would each pay half of that amount, or 7.65%. 

Companies will give you an IRS Form 1099-K or 1099-MISC in January of each year. This is a form that lists how much the company paid you for your services over the prior tax year. You can then use this form to figure out how much you owe in taxes. Keep in mind that under certain circumstances companies may not need to send 1099 forms to their contractors. For example, if you earned less than $600 from a company, the company is not required to give you a 1099 form. 

Regardless of whether you receive a 1099 form in the mail, you may still owe taxes! You may want to talk with an accountant. You can also use an online tax service, like TurboTax or H&R Block, to understand your specific tax situation. 

Quarterly Tax Payments

As a self-employed individual, generally you are required to file an annual return and pay estimated tax quarterly. You can use Form 1040-ES, Estimated Tax for Individuals to figure out if you owe taxes quarterly. You will need your prior year’s annual tax return in order to fill out Form 1040-ES. See the Internal Revenue Service website for more information. 

Deductions

Besides keeping track of your income, you should also keep track of money you have spent related to your freelance job. You may be able to deduct the money you have spent from the income you have earned. These deductions can reduce the amount of taxes you need to pay on your income. Deductions depend on your expenses, and their purpose.

For example, if you drive a car for Uber or Lyft, the following are examples of expenses that may be deductible if they were incurred for business use:

• Mileage
• Gas
• Oil changes
• Car washes
• Tolls and parking costs

If you use part of your home for business, you may be able to deduct expenses for the business use of your home. The home office deduction is available for homeowners and renters, and applies to all types of homes.

Other noteworthy deductions include the self-employment tax deduction and the Qualified Business Income (QBI) deduction. The self-employment tax deduction allows you to deduct the amount that your employer would have covered under an employee scenario. As discussed in the previous paragraph, this comes out to be 7.65%. This deduction can be applied to your personal income taxes. Also, you may be eligible for the QBI deduction which allows self-employed people to deduct up to 20% of their personal income taxes.

Be sure to save your receipts and credit card statements.

When do you pay taxes?

Besides the withholding issue discussed in the section “Employee vs. Independent Contractor,” employees and independent contractors usually pay their taxes at different times. Employees have taxes withheld from their paychecks. Therefore, they only need to pay taxes directly if their withholdings are not enough to cover their taxes.

Independent contractors do not have taxes withheld. Federal, state, and local tax authorities expect to be paid at least once every calendar quarter. If you do not make tax payments on time, you may be subject to penalties.

Read the IRS payment schedule and the Illinois Department of Revenue payment schedule.

Penalties if you don't pay your taxes

Don't delay your tax filing even if you know you owe money to the IRS. It's better to file your taxes on time and set up a payment plan than to not file at all. Failing to file your taxes can result in bigger penalties. Read about your options if you can't pay your taxes. You can use a Schedule SE (Form 1040 or 1040-SR) to pay your self-employment taxes.

If you're self-employed and filing your taxes for the first time, consider using tax software or hiring a tax professional to help you. Self-employment taxes can be complicated, and getting help from a professional can be worth the cost.

A note on local regulations

Many cities around the world are starting to implement laws that regulate short-term rental services, like Airbnb. For example, if you have an Airbnb property in the city of Chicago, you may be required to register it with the city. If the property is not your primary residence, you may also be required to obtain a vacation rental license.

Airbnb has links to all of the Chicago-specific requirements.

IRS Circular 230 notice

In order to comply with requirements imposed by the IRS, we must inform you that any U.S. federal tax advice contained in this document is not intended or written to be used, and cannot be used, for the purpose of:

• Avoiding penalties under the Internal Revenue Code, or
• Promoting, marketing or recommending to another party any transaction or matter that is contained in this document.