I can’t wait for tax season!, said no one. Ever. But we at Lettuce are working hard to make tax season a joy–or at the very least, something not to be dreaded. And we’re doing it specifically for all the freelancer-types out there.
Why freelancers? Because we know that filing as a 1099 independent contractor can put you at a real disadvantage, from a tax point of view. For one, you have to spend time keeping track of all your income. There’s no one-and-done W-2 form for you! And depending on where you live and do business, you likely have to pay both state and federal taxes. Additionally, and here’s the real kicker, independent contractors are responsible for paying the full 15.3% self-employment tax. If you were an employee, your employer would pay these Medicare and Social Security taxes.
Here's the good news: There are steps you can take to ensure you don't overpay on taxes when filing as a 1099 independent contractor. With the proper preparation and knowledge, you can rest assured you're paying only the taxes you have to each year–and not a penny more.
We’ve come up with a comprehensive (yet concise and easy to understand) guide to avoid overpaying your business taxes. You’ll find some baseline info, a few insider tips and even some expert insights–all aimed at making sure this year you show tax season who’s boss. Feel free to read them in order or jump to the areas that interest you most.
1. The Basics of Taxes
2. The Advantages of Self-Employment Tax Deductions
3. How to Lower Your Self-Employed Taxable Income
4. The Art of Legal Avoidance (1099 Edition)
5. The S Corp Advantage
6. FAQ’s
For most of us, taxes are an inescapable part of life, whether as an individual or a business. All our income must be reported, and taxes must be paid to comply with the law. For those who make money outside of traditional W-2 employment, understanding the basics of taxes is especially important. As we mentioned, freelancers and independent contractors file one or more 1099 forms to report the amount of money earned annually from clients and/or customers.
The 1099-MISC (stands for miscellaneous) is an IRS form that freelancers and independent contractors receive from companies they work with. This form documents exactly how much money has been paid by the company to the worker during the tax year. Companies are required to send a 1099-MISC for any payment of $600 or more. In short, if you receive one or more 1099’s, it means you earned at least $600 from one or more person or business that year.
To complete your tax forms correctly, you’ll have to include specific information found on the 1099-MISC form(s), such as your name, address, Social Security Number (SSN), and the amount of money earned from each customer or client.
Tip! Income reported on this form, 1) is typically subject to self-employment taxes and, 2) should be reported on your Schedule C for tax purposes (Schedule C is part of Form 1040 and is used to report income or loss from work done as a sole proprietor).
Trying to track down all your income in April is beyond stressful–and often leads to inaccuracies. The solution? Keep accurate records throughout the year, including client name, amount paid and date of payment. This makes it easy to confirm that the amount on your 1099’s matches the amount paid into your bank account.
Tip! Check those 1099’s against your records as soon as you get them. That way, if you find any discrepancies, you’ll be able to correct them before filing taxes, as required by law. Use Form 1096.
Of course there are other types of 1099’s (We are talking about the IRS here!), but all 1099’s share at least one thing in common: they document the kinds of income not reported on a W-2. Knowing the different types of 1099 forms–and when to use them–will help make filing your taxes much simpler.
By now, you’re well versed in the most common 1099, form 1099-MISC. Again, this form is used to report payments of $600 or more made to independent contractors or self-employed individuals. For example, if someone paid you over $600 to build their website, they would send you a 1099-MISC. But if you paid someone $600+ to build your business’ website, you would send them a 1099-MISC.
Other types of 1099’s include:
Once you know the type of income received, be sure to report it on the proper 1099 form to avoid any penalties from the IRS for late or incorrect filing.
Tip! Carefully review all relevant information well ahead of any tax deadlines to ensure each form is completed accurately and on time.
Self-employment tax deductions can greatly reduce (or even eliminate!) the amount you owe in taxes, but many people don't know about them or don’t understand them, so they end up not taking them. This leads to overpayment of taxes to the IRS. Is there anything worse?!
But if you know better–or have a tax savvy service like Lettuce on your side (wink-wink), you can take advantage of these deductions and significantly lower your tax liabilities, that is, keep more of the money you make. Money you could be using to pay for home repairs, college tuition, a much-needed vacay–you name it!
Let’s take a look at some of the advantages of self-employment tax deductions:
We know, we’ve already discussed the tax savings bit–but it bears repeating! After all, why pay Uncle Sam more than you have to?
Self-employed individuals gain access to an exclusive list of business expenses they can deduct from their tax bill. For example, if you're running a business out of your home, you may be able to deduct a portion of your rent or mortgage payments.
Self-employed individuals also have access to health savings accounts (HSAs), which allow them to set aside pre-tax dollars for medical care and qualifying expenses like prescription drugs or medical supplies. This can help keep costs low while allowing for greater flexibility when paying medical bills.
Taking advantage of self-employed deductions makes filing taxes easier because you'll know exactly what kind of deductions are available and how much they will save you in taxes each year. This greatly simplifies the process, saving time and headaches during tax season.
Self-employed deductions can help you save money and maximize your investment opportunities. By reducing the amount of taxes owed each year, more money is available to invest in stocks, bonds, mutual funds, and other investments that will further increase your financial portfolio. This could mean more control over your retirement savings or other long-term goals.
Reducing your taxable income isn't always straightforward, but there are steps you can take to minimize the amount of taxes you pay.
Keep an eye on your business income and expenses throughout the year. This will give you an accurate view of money coming in and going out. Additionally, tracking all deductions available to self-employed individuals (e.g. home office use, computer equipment and supply costs, travel expenses, health insurance premiums–and more) will reduce your taxable income.
Consider changing your business structure. Designating your business as an S Corporation (S Corp) offers unique tax benefits that have the potential to significantly lower your end-of-year tax bill. While transitioning to an S Corp may sound complicated or costly, you’ve got options. You can investigate filing multiple returns or taking additional credits, where applicable. Or if that sounds daunting (we get it), Lettuce can work to streamline the process and offset the costs–plus more–by taking advantage of all the potential tax savings an S Corp can provide. Or your money back! (For real.)
Taxes can be overwhelming and confusing. The tax code is so vast and complicated, it can feel like the system is rigged against you. From write-offs to establishing an S Corp, here's a recap of some of the best tax reduction strategies to help 1099 workers simplify the tax preparation process, stay compliant and save money on their federal taxes.
Maximize Write-Offs. This is one of the most effective ways to reduce taxable income. Eligible items like office supplies, professional memberships, and travel expenses can all be deducted from your annual income (“written off”) to lower your taxable amount. Before deducting any item on your return, make sure it meets IRS standards.
Savings Plans. Retirement savings plans, like SEP IRAs or Simple IRAs, allow self-employed individuals to contribute a percentage of their annual income into a designated savings account. Such contributions are pre-tax (not taxed!), will grow over time, and provide tax benefits both in current and future years. For their part, 401(k) plans are also available to sole proprietors who employ others (e.g. contract workers).
Making regular contributions to such retirement savings plans, 1099’ers can easily pocket hundreds to thousands of dollars in tax deductions every year.
Automatic Deductions. Here’s an easy one! Independent contractors enjoy several tax deductions that don't require itemization, such as health insurance premiums, job search expenses, and car mileage for business-related travel. The IRS allows these expenses to be deducted without keeping track of receipts or other documentation.
Itemized Deductions. In addition to claiming automatic deductions on the federal 1040 form, independent contractors may also take advantage of itemized tax deductions. Following IRS guidelines, these deductions are submitted via Schedule A of form 1040 . Some examples of Itemized deductions include: mortgage interest payments, charitable contributions, and medical costs (including dental).
Note! Itemized deductions only kick in once their amount exceeds 7% of total business profits earned during the filing period. It’s a good idea, as always, to rely on professional advice, such as Lettuce or a qualified accountant, before claiming any deduction on your returns.
Self-Employment Health Insurance Deductions. Individuals who are self-employed can deduct from their taxable income any health insurance premiums paid for themselves and their covered dependents. To do this, you must meet certain criteria outlined by the IRS, including being under the age of 65 and be enrolled in minimum essential coverage for at least nine out of 12 months during the filing period.
Before we dip our toes into the world of S-corps, let’s get some basics straight:
A Subchapter S (S Corp) is a filing election that can be paired with an entity, such as an LLC or a PLLC (Professional Limited Liability Company, for such licensed professionals as doctors, lawyers, architects, etc.) Electing to be an S Corp provides business owners with limited liability protection, i.e. the owner's personal assets are generally not at risk if the company is sued or goes into debt. Many small business owners choose to designate their business as an S Corp to enjoy these protections and take advantage of additional tax benefits.
Let’s examine some reasons why it could be a good idea.
First, becoming an S Corp can help you save on your taxes. Here’s how it works:
Receiving income in two parts, a salary and an owner’s distribution, is where the potential for tax savings comes in. It’s right there in the tax code! (yep, we’re the kind of nerds who actually read it). As it turns out, you’re only liable to pay the self-employment tax (15.3%) on the salary portion of your income, not the distributions. The savings is real, people. That said, it is important to note that both salary and owner’s distributions are subject to the remaining federal and state taxes.
When determining your salary within an S Corp, ensure it isn't too high or too low. Too high and you’re increasing your taxable income unnecessarily. Too low and you’re bound to raise a few red flags at the IRS. Trust us, lowballing your salary to reduce paying taxes on your business profits isn’t worth the hefty fines or penalties that may result. Working with a professional, like Lettuce, is a sound way to ensure you're maximizing tax deductions while remaining in compliance with the IRS. Read our blog post on Salary vs. Owner's Contribution for more information on reasonable salaries.
Because an S Corp comes with additional costs, you’ll want to make sure you meet a certain income threshold. This will ensure that the tax savings are greater than the costs. Depending on your state, there may be certain limitations to consider. Our recommendation is to check with an expert (Lettuce or qualified CPA) before making any decisions and to make sure an S Corp makes financial sense for your specific situation.
A 1099 form is a tax document used to report various types of income other than wages, salaries, and tips (which are reported on a W-2 form).
The most common types of income that require a 1099 form include: Self-employment Income (1099-MISC); Royalties or Rents (1099-MISC or 1099-K); Trade/Barter Exchange (1099-B); and Interest or Dividends earned on investments and mortgages (1099-INT or 1099-DIV).
Income from a 1099 form should generally be reported on line 21 of Form 1040 for non-employee compensation, or on other applicable lines relevant to the specific type of payment received. Each year, the payer should also attach a copy of Form 1096, with all relevant 1099 forms, when filing your tax return with the IRS.
Generally speaking, businesses are responsible for issuing a 1099 form to independent contractors they’ve paid $600 or more to, to those who received rent payments from leases, or those who have earned over $600 in gross proceeds in the calendar year from certain business transactions, such as stock sales.
There may be penalties associated with failure to file required forms, like a proper 1099 form, in a timely manner. The severity of civil and criminal penalties depends on how late the form is filed, or whether it was intentionally never filed. A good rule of thumb: Make every effort to submit your 1099 forms before their due dates to avoid potentially expensive repercussions.
Lettuce isn’t just another tax app. For businesses of one, we’re the always-on, finance and accounting digital solution. Our easy-to-use, yet supremely powerful solution is designed specifically to help solopreneurs maximize their tax savings, reduce annual liability, grow their business and, dare we say it, look forward to April 15th. How? By streamlining their accounting processes, increasing visibility and control, and generating an average of over $11,000 in tax savings for our customers year over year.
We get it. Understanding your 1099 taxes can be super intimidating. But truthfully, it no longer has to be. With the right guidance and resources, including innovative solutions like Lettuce, you can ensure that your business fully complies with all federal and state regulations while taking advantage of potentially untapped tax savings to maximize your short and long-term financial success.
If your business is considering becoming an S cCrp, Lettuce is standing by to help you complete the necessary paperwork and filing requirements, as well as provide 24/7 analysis and guidance on salary payments, tax deductions and credits, bookkeeping best practices, and more.
If you just want to learn more, visit lettuce.co. Or if you’re curious to know just how much Lettuce could save you on your taxes, check out our amazing (free with zero obligation) S Corp tax calculator.