Self-employment is equivalent to freedom. The possibility of managing your time, prioritizing your activities, and being one’s own boss is, indeed, a dream come true for many. In the United States of America, 44 million people are self-employed, and almost 30 percent of the American workforce works at least as a part-time independent contractors.
However, the freedom of self-employment often comes with the burden of paying extra taxes to do business. It is in such a context that self-employment deductions come into the picture. The 2018 Tax Cuts and Jobs Act (TCJA) ushered in several changes to self-employment tax write-offs, some of which are set to expire in 2025, and the rest are permanent. Freelancers, small-scale independent contractors, sole proprietors, and certain kinds of estates and Limited Liability Companies (LLCs) greatly benefit from self-employment tax deductions.
Although there are multiple write-offs that self-employed persons can currently use, we will be focusing on the top five.
WRITE-OFFS – THE OPTIMAL WAY TO MITIGATE SELF-EMPLOYMENT EXPENSES – 1099
To begin with, it is essential to recount that as a self-employed person, you are paying the self-employment tax, a combination of Social Security taxes and Medicare Taxes. When you opt for deductions on one-half of the self-employment tax, it is only a deduction for calculating your income. Thus, there is no reduction of your net earnings from self-employment or downsizing of your self-employment tax itself. Nevertheless, it is noteworthy that self-employment deductions can culminate in a whopping 20 percent reduction in the QBI of a self-employed person.
Home Office Deductions – They are one of the most complicated yet rewarding deductions that self-employed persons are entitled to! In simple words, we can understand home office deductions as the write-off cost of any workspace used ‘regularly ad exclusively’ for business purposes, irrespective of whether it is rented or owned. However, home office deductions come with a lot of conditions, and for your ‘residence’ to qualify as a ‘home office,’ it has to meet the following criteria –
- You ‘exclusively and regularly’ use your home for business reasons.
- It must be equipped with the tools and equipment required to facilitate trade, such as desks, chairs, computers, Wi-Fi, printers, etc. On the contrary, a lounge, living room, or an empty, unoccupied room does not qualify as a home office.
- You should not use the office space for alternative purposes.
- Most of your business duties must happen within that portion of your home, which you call the home office. In fact, more than 50 percent of the taxpayer’s responsibilities must be performed within the concerned home office.
It is important to remember that you are basically in the honor system; it is best to be prepared beforehand to defend your deduction in case of an IRS audit. The primordial step in this direction is to prepare a diagram of your workspace with accurate measurements. Lastly, apart from the office space itself, you can also deduct other costs from your home office, including the business percentage of the deductible mortgage, depreciation, utilities, etc.
Health Insurance Premiums – One of the meatiest self-employment deductions for the upcoming tax season is based on your health insurance premiums. You can deduct the full amount of your dental, health, and other qualified LTC or long-term care insurance premiums if you are self-employed and pay for your own coverage and are not eligible to join in a plan through your spouse’s job. In addition, you can also discount the premiums you pay to cover the premiums of your dependents, your spouse, and children below 27 years of age. You can use IRS Publication 535 to calculate your self-employment insurance deductions.
Interest Deductions – The interest on a business loan from a bank is also tax deductible. If the loan is utilized for personal and business purposes, then the business proportion of the loan’s interest becomes a part of the deductions. To ensure that your loan’s business usage is tax deductible, you must carefully track the funds’ disbursement. However, it is essential to remember that credit card interest for business purchases is also tax deductible.
Meals Deduction – Another complex yet meaty self-employment deduction is related to the expenses incurred on meals when traveling for business, at a business conference, or entertaining a client. However, there is a catch as the meal deduction cannot be extravagant and should be attuned to your overall income. Furthermore, per the Consolidated Appropriations Act (CAA) of 2021, one hundred percent of business meal expenses can be written off, provided the expenditure is incurred on food or beverages provided by a restaurant. However, the provision expires at the end of 2022. Lastly, self-employed personnel should keep in mind that the standard meal allowance rate is updated every fiscal year on October 1. Thus, vigilance is necessary.
Travel Deduction – A self-employed person can claim travel expenses if their employment requires them to be away from their tax home for more than a day, during which time they slept, showered, and ate outside of their normal routine. Furthermore, for travel-specific tax deductibles, it is vital that you have a specific business purpose planned before you leave your home. Moreover, it is mandatory to engage in business activities, such as finding new customers, meeting clients, learning a new skill related to your business, and so forth, while you are on the road. To ensure that business travel expenses are part of the tax deductions, you must keep complete and accurate records and retain all receipts of all business journeys and expenses. The Internal Revenue Service is often skeptical towards tax-deductible business expenditure; thus, it is your responsibility to avoid any glitches by meticulous record-keeping. Deductible travel expenses include –
- Cost of transportation to and from your destination, such as plane or train fares
- Cost of transportation at your destination, such as car rental, Uber far, subway tickets, etc
Lastly, it is essential to remember that travel expenses for business are 100 percent tax deductible. However, if you combine pleasure and business on your trip, things can get complex. For instance, if your wife accompanies you on the business trip, then only the lodging and transportation you would have incurred had you traveled alone are deductible.
So, there we have it, the five most promising self-employment deductions that can considerably bring down your self-employment expenses. However, apart from the abovementioned ones, some other deductions can also help you. What are they? Let us find out!
ANCILLARY SELF-EMPLOYMENT DEDUCTIONS THAT CAN HELP 1099 WORKERS
- Marketing Expenses – Marketing is required to transform any craft into a business. It would not be wrong to assert that self-employed persons thrive on marketing, as they must constantly advertise their skills to attract more clients or customers. Well, there is another good part to marketing, and that is marketing deductions. You can include the costs of Google ads, Linkedin promotions, influencer marketing, and other ad placement expenses in your marketing deductions.
- Internet and Phone Bills – As a self-employed person, you can also claim write-offs on phone and internet bills incurred for business purposes. Thus, you should invest in one cell phone dedicated to your phone bill. You can approach these deductions in two ways – discounting 100 percent costs of the device for the year you brought it or calculating depreciation costs by computing the purchase cost over the device’s lifetime.
- Education – Some sole proprietors with start-up-related businesses or even freelancers working in the digital domain must constantly upgrade their skills to stay ahead of the curve. So, saving money for education-related expenses is always a good idea. In addition, the IRS allows 1099 workers to write off taxes for courses, classes, seminars, books, tech-related publications, etc.
- Mileage – You can track the mileage for your business-related vehicle use and incorporate the amount in your self-employment deductions. For the year 2022, the annualised standard mileage deduction rate was 62.5 cents. If you use your vehicle for charity, the allowance drops to 14 cents per mile. Likewise, the medical movement has a standard mileage rate of 16 cents per mile.
- Startup Costs – Lastly, you can include the cost of starting your business in the list of tax deductions. It is possible to deduct up to USD 5000 in startup costs as an independent contractor. Some of the typical inclusions are employee interview costs, industry research costs, accountancy, and tax advisory expenses, costs of vetting for business locations, and much more.
Filing tax returns is exceptionally challenging for self-employed persons. The multiple streams of income, different types of self-employment deductions, and the need to pay quarterly taxes on an estimated basis make it hard for 1099 workers to manage their taxation at home. In addition, opting for professionals can burn a hole in the pocket. In such a situation, AI-driven financial tools emerge as the knight in shining armor. For example, Flyfin’s tax engine is a fast, efficient, and error-free method for self-employed people to calculate their deductions and churn out an accurate tax file.
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