Tax Deductions for the Self-Employed indeed come with attractive benefits. When you act as your own boss, there are myriad financial flexibilities that come with it. However, you also have the hassle to manage your tax liabilities optimally. You can effectively manage your expenses and reduce the burden of taxes by availing of deduction strategies. The US government has initiated various tax cuts to soften the blow of extra costs on self-employed individuals to make things easier.
What is the meaning of a Tax Deduction?
A tax deduction is a compelling benefit bestowed to each taxpayer, enabling them to reduce the amount of their taxable income. These reductions are initiated by the Internal Revenue Service and aim to support individuals and small businesses. If you are a small business, then this is one realm that you need to get familiarized with to reduce your financial liabilities. These deductions allow you to incur a certain percentage of money. Additionally, it will sometimes place you in a lower tax bracket and lets you subtract from your gross income to explore the benefit fully.
In the US, there are two categories of deduction – Standard deduction and itemized deduction. The standard deduction is a fixed amount that reduces your taxable income. You can claim this flat amount if your outlays do not qualify for itemized deductions.
They differ as per your filing status. For 2020, the standard deductions available are:
- For single or married filing separately — $12,400
- For married persons filing jointly or qualifying widow(er) — $24,800
- For the head of household — $18,650
On the contrary, the itemized deduction allows you to reduce your adjusted gross income (AGI). The amount that gets itemized differs from person to person. It is generally calculated by counting all your deductions and then reducing that amount from the taxable income. One can employ Schedule A of Form 1040 to withhold medical taxes, taxes already paid, home mortgage interest, and charitable gifts. You can utilize it, provided your qualifiable standard deduction amount is less than the itemized deduction.
Where to Report the Relevant Tax Deductions?
As a self-employed person, you need Schedule C of Form 1040 to claim any deduction. You can subtract the cost of advertising, utilities, and extra business costs using this Schedule. If your mode of transport is the same for business and personal purposes, then only business expenditures are deductible.
Why does it seem to be complicated?
Self-employment can act as both a blessing and a curse at the same time. As the taxable income is not taken away directly from your paycheck, you may find it challenging to cope with the nearing tax deadlines. Traditional full-time employees do not have to worry about such complications, as they can effortlessly file it through W-2 which automatically includes tax withholdings.
If you operate as a freelancer, then you can file quarterly tax payments. On the other hand, self-employed workers have additional expenses as they pay the employer medicare as well as their social security. As a result, they can deduct a portion of this from their costs and even deduct extra tax deductions to reduce their tax burden. Apart from this, you can make use of the following spending:
- Expenses of exclusive tools that you purchase for the sole purpose of serving your business.
- Products that are necessary for your daily operations like your car
- Things that you form part of your business property like a rentable office space
Now let us catch a glance at the standard deductions that a self-employed person typically utilizes.
Common Tax Deductions for the Self-Employed
Any self-employed person can claim these deductions. For instance, Uber or Lyft drivers remain entitled to mileage deductions, or professional writers can easily claim home office deductions. Similarly, consultant workers, designers, household helpers, or photographers can also use the regular deductions.
The following are the frequently claimed deduction for self-employed individuals:
- Travel and hotel: You can claim any travel related to your business, like travel and stay expenses, to visit a client with the help of this benefit. In addition, you can also deduct your accommodation cost and a 50% reduction on your business meals.
- Home Office Expenditures: If you can have a designated space arranged as an office in your home, then you are eligible to claim this deduction. A part of your home utility expenses can also be a part of this deduction.
- Utilities: You can apply a part of your home expenses as a utility cost. However, it should be proportionate to the percentage of your home space utilized as your office. Despite the actual costs of the utensils, you can also claim phone bills, electricity bills, and gas as a freelancer filing for such deductions.
- Professional Development Expenses: Besides this, you can also reduce costs for professional enhancement projects like seminars or classes that you might exercise to keep up with the growing competition. To make things easier, you can deduct the amount for joining a professional organization or membership fees.
- Advertising and marketing spend: One can lower their taxable income using expenses from advertising and marketing, such as business cards and print ads, along with other promotional costs.
- Website: As websites are your core operating tool, you can withhold website-oriented costs, including domain fees, web design, and web development expenses.
- Investment in Software Systems: To boost your efficiency levels, you might get expensive software like Microsoft Office or video editing software. You can deduct these costs as a budding entrepreneur.
- Incorporation: IRS allows you to deduct expenses associated with business incorporation, like registration fees or legal outlays. If you have additional insurance coverage or health insurance costs, you can claim the deduction if your business is reaping profit.
Uncommon Deduction for the Self Employed Individuals
As a business owner, you will also be dealing with distinctive expenses.
Type of Expenses | Deductible Expenses |
|---|---|
| Commissions and fees | Expenses paid to non-employees to increase revenue |
| Contract employees | Payment made to independent contractors |
| Depletion | Mining businesses can deduct expenses to find and sell resources |
| Employee Benefit Programs | Employee Benefit Programs |
| Employee Wages | Salaries and Bonuses |
| Interest (mortgage) | Interest on properties and you can use Form 1098 to make these deductions. |
| Interest (cars and other expenses) | A portion of this interests is eligible for deduction |
| Legal and professional services | Fees connected to business |
| Pension plans | If you contribute to retirement plans of your employees |
| Rent or Lease (vehicles and equipment) | Spending on the properties that you possess but do not own |
| Rent or Lease (business properties) | Any items excluding expenditures related to the vehicles or equipment category |
| Repairs and Maintenance | Repairs on any tools or machines used in your business |
Additional Deductions which you can claim on Schedule 1 of Form 1040
You can find most of these deductions on the Schedule C tax form. Nevertheless, you can avail of some of these tax deductions using Schedule 1 of Form 1040.
- Health insurance deductions
- Self-employed FICA tax deductions
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It is preferable to use professional assistance to file your federal taxes and claim your tax deductions duly. As we have discussed, self-employed individuals do not have taxes automatically deducted from their paychecks. Hence, it is vital to keep track of your cash flows and unlock benefits that help you expand your investment belt. Since singularly managing business and keeping a tab on taxes can also negatively impact your business, it is ideal to leverage your tax preparation services to a professional.
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