Looking for opinions/advice: taxes and freelancing

In My Humble Opinion
1

So I was let go of my salaried position a month and a half ago. The writing was on the wall: as a developer my passion is programming, and since they weren’t a development company, and the software products I had built for them were essentially in maintenance mode, they wanted me to go back to my past duties doing data analysis. I let my displeasure be known, so that was that.

I’ve been looking at sharpening my skills, both in terms of programming, especially working with other developers in an agile environment instead of mostly by myself, and in terms of interviewing. I suffer from social anxiety, so this part of being jobless was especially anxiety inducing for me.

So I decided that a good way of achieving this that would make me money instead of cost me money, would be to go ahead and try freelancing for a bit. And it’s been working out. I’m actually making much more money than I was, and I’m working with developers and engineers much more knowledgeable than I, and I’m learning a ton. I think this will absolutely serve me well for when I do go back to a salaried position.

But I’m clueless as to how this is supposed to work in terms of taxes. Back when I was young I took a job as a subcontractor for a same day delivery service, and I remember essentially becoming my own business. I don’t recall if this was for tax reasons or a requirement of the job, so that would be my first question:

Do I need to set myself up as my own business? Would that be advantageous, or necessary? And if so, how do I do that?

Secondly, taxes are not taken away from my paychecks, and I heard that if that’s the case I’m supposed to file taxes more often than just at the end of the year? How do I start that process?

I know you’re not my lawyer and there won’t be any lawyer-ly advice… well there might be lawyer-ly advice but not official legal advice, etc, etc. but thank you for any help/advice you might have for me!

2

Mr. Athena and I did contract-based software development for over a decade. Here’s what you have to watch out for:

  • as for as making more $$ than before, be sure that you are factoring in things like taxes (you’ll pay more of them), lack of benefits, expensive health insurance (you bought some, right?), no paid vacation or sick days, no contributions to a 401K, etc. I found that to break even freelancing, I had to charge MUCH more than I expected.

  • You will pay more taxes, and yes, you need to pay quarterly if you want to avoid paying fees. I got in the habit early on of taking a set percentage out of my check everytime I got paid and putting it in a special “Tax” savings account. That way, I was never surprised once that quarterly tax bill came.

  • Get a CPA to do your taxes. It’s worth it; they will find write-offs you will not find on your own. Well worth the $$.

  • We never set up our own business; we just billed as 1099 employees and that was it. There is probably some advantage to setting up an LLC (now that I think about it, I do think we had one for a while) but once again, your CPA can advise you on that.

  • Did I mention health insurance? Buy health insurance. You need it.

3

I was an independent contractor for a number of years (on top of a regular paying gig) and I always saved 50% of my 1099 income. I was always happy when I had some left over after paying my quarterly taxes. This was after my first year of being completely oblivious and thinking I’d pay 20’ish% when I did my normal annual tax return and then having a near heart attack moment. And yes, I had to pay a fine for not submitting quarterly.

Other than that, Athena has great advice.

4

Yeah, we signed up via Obama Care, of course republicans are dead set on kneecapping that so who knows what’s going to happen next year. Pricey, but my previous employer cheaped out too so we were on the hook for a substantial part of our health insurance anyway. I’m essentially only paying about $2,500 more a year than with my previous employer.

5

So are freelancers taxed MORE than regular salaried employees for some reason? That sucks, why?

I started freelancing a month ago, when should I pay my first visit to a CPA? I guess he can answer questions like: can I deduct the cost of software, hosting fees, etc, etc for my job… Will he be able to estimate how much money I should be setting aside? If I have to put 50% of the money I’m making away for taxes, then, with healthcare expenses and 401k savings I’m actually not making more than I was before :frowning: And yeah, no paid vacations either.

Well, this was always a temporary stepping stone for me anyway. I wanted to improve as a developer before going after a salaried gig again, with any luck in NYC. ::crosses fingers::

6

Generally the best business type to set up for an independent contractor with just one employee (you) is a pass through entity. It depends on the state whether the best pass through is an S-corporation or an LLC.

There are three reasons to setup an S-Corporation (or LLC, but I have an S-corp because that was best in my state, so everything after this is stuff I know for S-corp but not for sure for LLC).

  1. Assuming you don’t make a huge amount of $$ more than the cap for Social security, You can split your pay into both direct payroll which is subject to FICA and profits to the S-corp which is not. Saves 15% on the money directed to profit because you save both employer and employee portion of Social Security and Medicaid
  2. More tax-advantaged retirement space. If you can put away more than the $5500 IRA limit, setting up an S-corp lets you put in much more money than that into a SEP IRA or Individual 401-K (as much as $54,000 if you make enough money).
  3. Easier to deduct legit business expenses

There are extra costs though that make it not a good idea if you earn too little - you will have to file a business tax return. You will have to pay Unemployment taxes that you avoid by being a 1099. States often have yearly business fees or taxes (Illinois had both a state franchise fee - flat $$, and a .5% of the profit “replacement tax”). You have to file payroll tax forms monthly or quarterly depending on your size, and the easiest way to do that is pay an online provider like Intuit Online Payroll $600/yr per employee or so.

Edit to add, if you are on obamacare/ACA, BIG advantage for business - if you setup an Individual 401-K, you can put in enough to pull your income down below the subsidy threshold much more easily unless you really earn a lot, and that can be worth big $$ in some states this coming year.

7

Because when you work for a company they share in your tax burden, ie: unemployment taxes. When you work for yourself you have to come up with your whole share.

mc

8

Athena’s advice is very sound. I worked as a freelancer for two years, in between full-time positions.

I didn’t set myself up as a business, because I hadn’t intended to remain as an independent freelancer for long.

For taxes, you’re supposed to pay estimated taxes on a (more-or-less) quarterly basis. The filing dates for Federal taxes are:

  • April 15th (for your estimated taxes from 1/1-3/31, and yes, that’s the same date that your tax return from the prior year are due)
  • June 15th (for estimated taxes from 4/1-5/31)
  • September 15th (for estimated taxes from 6/1-8/31)
  • January 15th (for estimated taxes from 9/1-12/31 of the previous year)

Note that I say “more or less,” because, as you can see, those dates aren’t spaced out equally over the year.

It’s important to keep in mind that you’re not only responsible for personally paying your income tax to the IRS (which your employer would normally withhold), but also your self-employment tax (which covers the Social Security and Medicare payments that your employer would also normally be taking out of your paycheck). I screwed that up the first year I was self-employed. :frowning:

If you live in a state in which you pay a state income tax, you’ll also be responsible for paying those. In Illinois, at least, you’re required to pay estimated tax on a quarterly basis, as well, and on the same dates as the Federal filing dates.

9

See an accountant now. They will help you with the initial setup steps. You don’t want to be visiting them the day before your first tax bill is due.

10

Employees have 7.65% come out of their paychecks for FICA. Another 7.65% is paid by your employer. As a self-employed person, you are your own employer, so you pay the entire 15.3%. Then you can deduct half of that on your Schedule C when you pay taxes.

ASAP, they can tell you to come back later if needed.

Probably.

Yes. And as said before, once you’re established you will be paying quarterly instead of having to store money in your mattress.

Or see an EA, pretty much the same as a CPA.

As a freelancer, the general expectation is that you can charge more than an employee would get paid, because they’re not paying for your employee expenses.

11

My wife is a freelance writer, so we’ve been through this for ages. Unless you are going to be making way more than I bet you will, you don’t need to set yourself up as a business except for the purposes of Schedule C. Which doesn’t cost anything.
You do have to pay estimated taxes, with enough for the self-employment tax.
Do see a CPA, because there you will learn things which are business expenses which might surprise you.
You can do a SEP, but my advice is to not deposit into it until the beginning of the next year - you have until filing date. Putting more money into the SEP than you are allowed can cause a penalty.
Above all, keep good records! And start a mileage log for your car. You can deduct mileage expenses for business purposes.

My wife used a CPA for the first few years, and then did it herself using tax software. (Deluxe versions support Schedule C.)

12

I can deduct my mileage for everyday stuff? I’m working as a software developer, so I’m mostly sitting at home :slight_smile:

13

Only mileage for trips relating to your business. Going to meet with a client? Yes. Going to the grocery store? No. :slight_smile:

14

Going to the store for Mt. Dew and Cheetos seems work related for a software developer…

I kid! :smiley:

15

Save all your receipts …

16

Only business related things. But you have to track the total mileage on the car for the year (beginning and end, not every trip.)

However, if you have to go and buy supplies, you should be able to deduct that. If you go to a meeting which might help you get work, you can deduct that also. But not going to the grocery store or the movies.

17

There used to be a PLATO game around collecting enough coins to go to the soda machine. So a good point.

18

Track mileage OR actual expenses. Most people do mileage as it’s easier to deal with.

19

That’s how I started. I started my business but knew nothing about all the stuff this thread is talking about. To this day I’m clueless. I talked with an accountant and hired someone to do the stuff she said needed done on a daily basis.

20

Others have answered this well enough. I’ll just add in that you’re going to probably be surprised at the tax bill. It’s gonna be more than you thought.

Yes, you can deduct anything you buy for your business. Also (and this is a big one) you can deduct space in your house and part of the utilities. Once again, your CPA will tell you how to do it.

When we were contractors, I put away 27% of every paycheck for taxes. That more or less covered us, and we usually had some left over. Of course, it depends on where you live and how much you earn, but that worked for us. It took a while to get to the 27% number; I’d suggest starting at 30% to be safe.

And now a shameless plug… when/if you want to go back to full-time employment, my company is just about always hiring software developers for work-from-home gigs. Good company, good benefits, and did I mention work-from-home? Full-stack .NET is the base skill set we look for, but we incorporate a whole mess o’ technologies and adding more all the time. PM me if anyone wants the details.