Taxes are a dreaded endeavor for anyone, but it’s even worse when you’re a 1099 independent contractor and creative freelancer. Doing your taxes can be stressful: finding receipts, chasing invoices, co-mingling personal expenses with business ones, the list goes on. Tax preparation can seem like the opposite of creativity, so it is not surprising that those working as freelance creatives would find the tax process particularly unpleasant. In fact, according to a recent report from the Strategic National Arts Alumni Project, creative freelancers say that managing their taxes and other financial obligations are one of the hardest aspects of managing their business.
When you’re incorporated, however, not only do you qualify for more tax deductions, but the processes for doing your taxes is easier. In fact, you can be leaving money on the table if you aren’t incorporated as a business. Just the act of having separate bank accounts and credit cards for personal and business purposes makes doing your taxes more bearable. Whether you already have a corporate setup in place or need the lowdown on how this structure can help you keep your tax payments low, here’s a breakdown of what freelance creatives need to know come tax season.
File Taxes Yourself or Hire an Accountant?
Whether you take on the task of filing taxes yourself or spend the money to hire an accountant, you still have some work to do, like keeping excellent financial records, receipts and detailed documentation of income and expenses. If you do hire an accountant, be aware of the pros and cons. On the pro side, accountants know the latest tax laws to get you the biggest return as tax laws can change from year to year. On the con side, you still have to prepare for your accountant to help you and constantly keep your personal and professional expenses separate. This can be more difficult for a creative freelancer than a full-time employee who doesn’t qualify for any deductions. Filing your taxes as an independent contract with multiple 1099 forms is doable, as long as you have the proper structures in place to stay organized.
Creative Freelancer Tax Forms: The W-9 and 1099
As a creative freelancer, you’re used to signing contracts and submitting invoices each time you land a gig and want to get paid. Clients will request documentation on your behalf that state you will be considered a 1099 independent contractor for your freelance jobs. This form, called a Form W-9, asks you to state basic information, such as your name, address and social security number or employer (your business) identification number.
Form W-9 is a crucial document because it states how you will be paid as a 1099 independent contractor, and it provides required taxpayer ID information that your client may be required to report to the IRS. If you’ve included your Social Security Number, you will be paid as an individual. If you’ve included an employer identification number, you will be taxed as the principal owner of your business. When it comes time to file your annual tax return, your clients are required to submit a 1099 form if they’ve paid you more than $600 within the year.
If you’re working as a 1099 independent contractor as a sole proprietor – meaning that you haven’t incorporated a business, and just filled in your Social Security number on your W-9 – then you would also be responsible for paying your social security and Medicare taxes. In addition, as a creative freelancer working as a sole proprietor, you will be held personally liable for any issue that may arise throughout the course of business – that means that any and all assets, like your home or a savings account, would be up for grabs if sued.
While your corporation may have just one employee – you – you’re often better off setting up a corporation, such as an LLC, in order to effectively structure your business, protect your work and safeguard your assets.
LLCs and Tax Deductions
Most first-time business owners elect to establish an LLC for its tax benefits. An LLC, or limited liability company, is a business structure in which the members of the company cannot generally be held personally liable for the company’s debts or liabilities, just like a corporation, except they do not require the same degree of formality typically required of corporations. Limited liability companies are essentially hybrid entities that combine the characteristics of a corporation and a partnership or sole proprietorship. The central feature of an LLC is its elective tax status that enables it to choose how to be taxed, the most common of which are: disregarded entity, S-corp, and C-corp.
Setting up an LLC is relatively easy and fairly cost effective. It’s a common misconception that setting up an LLC requires legal representation. In most states, setting up an LLC is as easy as visiting your state’s division of corporation’s website, and selecting the option that allows you to start your business.
Most states charge an annual filing fee under $200, and few require an operating agreement. You’ll need to come up with an entity name (most people simply choose their name, but feel free to come up with something catchy) and your articles of organization. Most times, the state makes it easy to file your articles of organization by having you fill out an online form that states basic information about your company: Your mailing address, the company’s officers (you, and anyone else that may be going in on this venture with you) and any other information the state determines necessary. Most creative freelancers won’t need to obtain a business license or permit to operate, but check with your state and city or town to confirm.
As an individual, your income taxes are calculated based on the amount you earn. When you work for a company as an individual sole proprietor – whether you’re full-time and on staff, or as an independent contractor – you’re responsible for paying those taxes. However, there is a common misconception that reaching a tax bracket results in a person paying the higher tax rate on their entire income. If you earn $50,000, you would reach the 25% bracket and your entire income is taxed at 25%, which is $12,500. However, this isn’t necessarily true. We have a progressive tax system, where only the income within a bracket is taxed at that bracket’s rate. An LLC might have a lower tax bracket …
Another important fact to know is that the IRS only requires taxpayers to pay taxes on their profit, not necessarily your billings. Running a business requires a certain amount of overhead – from office space to printing supplies, your freelance creative business requires you to spend money so you can earn it. All of those expenses are deductible from your total income (we’ll discuss what’s deductible later).
For example, let’s say you billed $50,000 as a freelance creative this year, but you spent about $20,000 on operating your business. On the IRS 1040 Form, in the Income section, you would list your wages, salaries, and tips (line 7) as $50,000, and provide the relevant documentation, i.e., all of the 1099 tax return forms you should have been sent from your various clients. Then, in the Adjusted Gross Income section, on line 27, you would list your business expenses, i.e., all that cash you spent on making your business work. The IRS would recognize your taxable income as $30,000, and you would be taxed based on that amount.
Filing taxes can be more complicated if you’re married or divorced, have children, own property or other assets. However, these guidelines are a useful primer for a creative freelancer just beginning to understand how taxes and tax deductions work.
What Can an LLC Deduct?
LLCs can deduct more than freelancers. As an independent contract, you probably already know that certain expenses can qualify for certain tax deductions. Knowing what you can claim as tax deductions is an important step in tax preparation. (This is where an accountant comes in handy.)
First, consider your office space. Even if you work from home, you can still deduct a portion of your rent or mortgage depending on how much square footage you use and if the space is solely used for work. Next, think about the equipment you use as a creative and business owner: printers, computers, software, art supplies and materials – anything you use to create or produce work and manage your business is fair game. Do you use your smart phone and the internet to communicate with clients? If these services are under a business account, your bills are fully deductible. If you mix personal and business use, you’ll have to figure out which calls were for business and the percentage of time you use the web for work.
Do you have a retirement account you make monthly payments into? More deductions. Do you attend industry conferences, take online or in-person classes for professional development or continuing education? Your work related travel expenses are deductible, whether you drive, ride share, take public transportation, or fly the friendly skies. Do you hire other independent contractors outsource some of your work? The money you pay them is tax deductible. Taking a client to lunch? Score some more tax deductions.
Filing your taxes is no doubt a cumbersome process and while it may never be enjoyable, it can be more bearable and easier. Now that you’ve got a grasp of why incorporating your business as a creative freelancer can save you time and money, you can be more prepared tackle it.
If you’re a freelance creative working as a 1099 independent contractor, tell us some of your best tax advice in the comments below. Also, visit the IRS’s Self-Employed Individuals Tax Center for helpful information and resources. .