How to Budget Your Taxes as a Freelancer and Avoid Expensive Tax Bills

The prospect of making money your way can be exciting, but many freelancers underestimate their tax liability.

Laurice Wardini, a freelance writer and co-founder of ClothedUp, said, “I knew taxes would be expensive when I first started freelancing, but when it came time to pay I was shocked.” She added: “I wasn’t fully prepared and was stuck with a huge bill by the end of the year.”

To prevent unwelcome surprises, freelancers need to keep a close eye on their tax obligations throughout the year. If you’re not sure where to start, take a look at how freelance taxation works and how much you need to set aside.

How Taxes Work for Freelancers

Once you become self-employed, the first thing you need to know is that your taxes are double. You may be subject to self-employment and income tax.

If your net income as a self-employed person is at least $400, the IRS requires you document Arrange SE and pay 15.3% self-employment tax. Of the 15.3% tax rate, 12.4% goes to Social Security and 2.9% goes to Medicare. That is, you don’t have to pay Social Security taxes on income above the plan’s annual income limit ($147,000 in 2022).

Individuals can deduct half of their employer’s self-employment tax when calculating their adjusted gross income. Doing so will help reduce the amount of income tax owed. However, it does not reduce net self-employment income or self-employment taxes.

Second, income tax is levied on the adjusted net gross income of businesses and individuals. As a freelancer, you may be responsible for taxes at the federal, state and territorial levels. Here’s something about each:

  • federal income tax Rates are progressive, with current rates ranging from 10% to 37% for 2022. You may pay multiple rates that increase as your income increases.
  • Forty-one states collect income tax at different rates. The nine that don’t are Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington and Wyoming.
  • Regional income tax Less common, but they do exist in a few states. They are usually levied by cities, but may also be levied by counties, school districts, or districts.

Your income tax liability will depend on where you live, your tax filing status, and your income. For this reason, you need to do some research to figure out what you owe. Generally, you can find published income tax laws and rates on state and territory government websites.

When do freelancers pay taxes?

The next question is, when will freelancers be taxed? If you are expected to owe at least $1,000 when you file your tax return at the end of the year, the IRS requires you to estimate payments on a quarterly basis. For tax year 2022, payment due dates are as follows:

  • the first season: Deadline is April 18, 2022.
  • Q2: Deadline is June 15, 2022.
  • the third quater: Deadline is September 15, 2022.
  • fourth quarter: Deadline is January 17, 2023.

To avoid tax penalties, be sure to make estimated payments on time and with your best estimate of what you owe.

How much do freelancers need to set aside for tax?

If you are a freelancer with a net income of at least $400, you will need to contribute 15.3% of your net income to self-employment tax, which is sufficient to cover your income tax.

To determine how much to set aside for income tax, review the income tax rates that apply to you at the federal, state, and territorial levels. Compare them with self-employment taxes to get the total percentage you’ll set aside.

For example, Andrew Marshall, a certified self-employed financial planner, says, “I set aside 30 percent because I live in California and my self-employment taxes, plus state and federal income taxes, make up 30 percent of my income. to a third.”

Tax planning tips for freelancers

Once you know how much to set aside, how do you go about saving it? Marshall advises: “Every time a client pays me, I transfer 30% of their payment into my tax savings account. I then use that money to pay my estimated tax quarterly.”

While you can also set aside estimated taxes on a weekly, monthly or quarterly basis, doing so after each payment is smart move This prevents accidental overruns.

If all this sounds too complicated, it’s best to leave your taxes to a professional. “Unless your expertise is small business accounting, don’t do it yourself,” warns Amanda M. Ferris, managing director of consulting and education firm Clover & Kind. “Work with a qualified professional right from the start,” she explains. It will help you avoid the stress, sleepless nights and penalties of thinking about paying taxes after the fact.”

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