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Any tax saving tips for freelance work?
Old 03-20-2009, 08:03 PM   #1
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Any tax saving tips for freelance work?

I have a full time W2 job and I also do some 1099 freelance work on the side. The freelance work is taxed 40-45% (my tax rate, plus the self-employment tax, plus State taxes).

Are there any recommendations for reducing these taxes? I write off as many business expenses as I can but I don't have that many. My freelance work adds up to about $15k a year so it doesn't seem like it would be worth incorporating.
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Old 03-20-2009, 09:34 PM   #2
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travel expenses associated with the work add up fast, the standard mile rate is pretty generous this year. Also, look to make sure you are including all costs associated with the free lance work, postage, office supplies, are commonly overlooked. Also if you are working out of your home consider home office. Taxes that high make me wonder if the free lance work is worth it.

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Old 03-20-2009, 10:05 PM   #3
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Home office: Your mileage may vary, but for most LBYM types (with a smaller home to start with minor upkeep expenses) and it's often a fairly small deduction. The IRS is said to question this deduction frequently.

I don't know if this appeals to you, but you could put every penny of your freelance pay into a tax-deferred solo 401K retirement plan and pay zero tax on it this year. You'd have to pay tax when you withdraw the money, but you might be in a lower bracket by then. A SEP IRA is a good vehicle, but you can't put as much away. More info at this link.

For 2009, in a solo 401K you can put the entire first $16,500 you earn into the account, and then 25% of your net earnings (approx). Limits and conditions apply, etc, etc.
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Old 03-20-2009, 10:15 PM   #4
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I've done quite a bit of consulting (i.e. 1099). You are right that the taxation is terrible. In my case I'm lucky to keep even 50% of the income.

My rules of freelance work are (1) to dare to charge way more than you think your client will pay, (2) to turn down work that, even then, is not both easy and lucrative, and (3) to "fire" any clients that don't respect you, your time, or who fail to pay promptly.

Rule 1 will actually help gain the respect of your client. "You get what you pay for" will work in your favor. Rules 2 and 3 are a matter of self-respect for your own time, given that you have a full time job. You have to avoid thinking only about the money. That can be nice, but free-lance work can and will kill your free time and your relationships unless you are able to say no.

Next, Section 179 is a boon to the self-employed. You can write off virtually any business related purchases 100%, immediately in the year you bought it (there is a cap, but it's rather high). This means that if you need a new desk, chair, table lamp, etc., or a new computer, etc., it costs you only about half of what you pay (after the tax deduction). Use this aggressively!

I'd be much more conservative about the home office deduction, however, since traditionally the IRS has always viewed that as a potential red flag.

Finally, you should definitely open an SEP (Simplified Employee Pension) account. It's a super-charged IRA for the self employed. It's very, very easy to open and to manage, and it's not too late to open one for last year. You can look into the 401k option as well, but it's a little more complicated and it may cost more to manage. There are pros and cons to each.
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Old 03-20-2009, 10:16 PM   #5
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Originally Posted by samclem View Post
For 2009, in a solo 401K you can put the entire first $16,500 you earn into the account, and then 25% of your net earnings (approx). Limits and conditions apply, etc, etc.
That's probably not true. One is only allowed $16,500 from ALL plans, so I imagine if one is in the 45% marginal income tax bracket that they have already contributed $16,500 from their W2 job earnings. OTOH, one can contribute that 25% from the "employer" of the free-lance work. With $15K available, that could shelter $3,500 which ain't small. If one only made $2K, then it probably wouldn't be worth sheltering $500.

And you can always give it all away to charity.

Oh, I should say that I do a few thousand of "free-lance" work as well. My clients pay 100% of my travel and meal expenses, so no need for me to deduct those since the reimbursements do not appear on the 1099. I don't need or use a home office because all I do is show up on site and give advice. I used to buy books and journals related to my free-lance work and charge that as an expense, but I don't buy any books anymore. The main trick I use is to pick my clients based on their location: Paris, London, Beijing, Melbourne, New York so that I can tack on some vacation time. Can you say "Great Wall"?
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Old 03-20-2009, 10:24 PM   #6
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That's probably not true. One is only allowed $16,500 from ALL plans, so I imagine if one is in the 45% marginal income tax bracket that they have already contributed $16,500 from their W2 job earnings.
Yes, good point. Of course, if bank5 would just get rid of that pesky full-time W-2 job, this wouldn't be an issue.
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Old 03-20-2009, 11:16 PM   #7
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Originally Posted by Grep View Post
I've done quite a bit of consulting (i.e. 1099). You are right that the taxation is terrible. In my case I'm lucky to keep even 50% of the income.

My rules of freelance work are (1) to dare to charge way more than you think your client will pay, (2) to turn down work that, even then, is not both easy and lucrative, and (3) to "fire" any clients that don't respect you, your time, or who fail to pay promptly.

Rule 1 will actually help gain the respect of your client. "You get what you pay for" will work in your favor. Rules 2 and 3 are a matter of self-respect for your own time, given that you have a full time job. You have to avoid thinking only about the money. That can be nice, but free-lance work can and will kill your free time and your relationships unless you are able to say no.

Next, Section 179 is a boon to the self-employed. You can write off virtually any business related purchases 100%, immediately in the year you bought it (there is a cap, but it's rather high). This means that if you need a new desk, chair, table lamp, etc., or a new computer, etc., it costs you only about half of what you pay (after the tax deduction). Use this aggressively!

I'd be much more conservative about the home office deduction, however, since traditionally the IRS has always viewed that as a potential red flag.

Finally, you should definitely open an SEP (Simplified Employee Pension) account. It's a super-charged IRA for the self employed. It's very, very easy to open and to manage, and it's not too late to open one for last year. You can look into the 401k option as well, but it's a little more complicated and it may cost more to manage. There are pros and cons to each.

Great points Grep. I charge about twice as much for my freelance work compared to what I make per hour from my W2 job. I'm about to increase my rates about 10% too.

The SEP account could be key. Even though I run my business as a sole-proprietor I can still open up a SEP account?
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Solo 401(k)
Old 03-20-2009, 11:38 PM   #8
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Solo 401(k)

I just found this article and I think the Solo 401(k) is the way to go - SEP vs. Solo 401(k) - Kiplinger.com

Granted I won't be able to contribute for 2008 but I'm ok with that.

I think I'm going to with Vanguard - https://personal.vanguard.com/us/acc...iewContent.jsp and toss in every freelance penny I make (assuming it's less than $16,500 this year).

I'm curious though, are distributions from a Solo 401(k) taxed more than a Traditional 401(k) account? Seems like the IRS wouldn't want to miss out on that 15.3% self-employment tax.
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Old 03-21-2009, 12:20 AM   #9
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Originally Posted by bank5 View Post
The SEP account could be key. Even though I run my business as a sole-proprietor I can still open up a SEP account?
Yes, absolutely, I have an SEP as a sole proprietor. It can be used regardless of whether you contribute to a normal IRA, etc. It's as easy as going to your bank (or Vanguard, etc.) and saying "please open an SEP for me." A 5-10 minute form and a deposit and you are done. Just do it before April 15 (or before your extension runs out) and you can open one for 2008.

You can convert an SEP to a solo 401k later. I have a 401k plus a 403b at work, both of which I max out. I'm rather unsure about the rules regarding a solo 401k and whether the one at work would interfere with it.
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Old 03-21-2009, 07:37 AM   #10
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These tips are based on 25 years of self-employment.
1. Record all mileage and auto expenses.
2. Take clients and potential clients out for meals.
3. Invest in technology that keeps you on the leading edge (section 179).
4. SEP or Solo 401 with Vanguard.
5. Seminars that directly apply to your business model.
6. Set aside one room to conduct business. Keep all your business assets there.
7. Raise your rates to find the best clients.
8. Take a tax course. Do your own taxes.
9. Make quarterly tax payments.
10. Work on the highest rungs of the ladder.
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Old 03-21-2009, 08:00 AM   #11
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Originally Posted by bank5 View Post
... and toss in every freelance penny I make (assuming it's less than $16,500 this year).

I'm curious though, are distributions from a Solo 401(k) taxed more than a Traditional 401(k) account? Seems like the IRS wouldn't want to miss out on that 15.3% self-employment tax.
Don't worry, when you learn about taxes, you will find out that you pay the SS taxes on your income including anything you put into a SEP, 401(k) or traditional 401(k) up to the SS contribution limit. Since you probably hit the limit with your W2 wages, your self-employment SS taxes will be limited to the "employer" part of those taxes.

And once again, you can contribute $16,500 combined as an employee to all your retirement plans. So if you contribute $16,500 at work you will not be able to contribute anything as an employee to your SEP or solo401(k). However, there is an employer conribution (even though as a self-employed person that means you are the employer) in the form of profit sharing that you can make. This amount is limited to 25% of that self-employed income.

Self-Employed 401k - The Retirement Plan for Business Owners and Entrepreneurs (search for "keep their day job" in this link).

Maybe some combination of Roth 401(k) at work and SEP or solo401(k) for the free-lance work would help in the long run, but I haven't run the numbers.
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Old 03-21-2009, 10:15 PM   #12
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Thanks all for the help. I have a couple of newbie type questions:

1. A Solo 401k helps you save on Federal taxes but not State, correct? So my State quarterly payments should not factor in how much I've contributed to my Solo 401k?

2. Say, I make $15,000 and have $5,000 in business expenses. The most I would be able to contribute to my solo 401 would be $9,325?

I'm basing that from solo401k.info:

Salary Deferral Contribution
In 2008, 100% of compensation up to a maximum of $15,500 ($20,500 if age 50 or older) can be contributed in salary deferrals. For a corporation compensation is based on W-2 wages. For businesses taxed as a sole proprietorship compensation is based on net adjusted business profits. Net adjusted business profit is determined by completing an IRS worksheet. It is calculated by taking gross self employment income and then subtracting business expenses and then subtracting 1/2 of the self employment tax (FICA and Medicare).
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Old 03-21-2009, 10:18 PM   #13
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Originally Posted by target2019 View Post
These tips are based on 25 years of self-employment.
1. Record all mileage and auto expenses.
2. Take clients and potential clients out for meals.
3. Invest in technology that keeps you on the leading edge (section 179).
4. SEP or Solo 401 with Vanguard.
5. Seminars that directly apply to your business model.
6. Set aside one room to conduct business. Keep all your business assets there.
7. Raise your rates to find the best clients.
8. Take a tax course. Do your own taxes.
9. Make quarterly tax payments.
10. Work on the highest rungs of the ladder.
Thanks for the tips. Do you have any recommendations for a tax course? I usually use TurboTax for my taxes but obviously have a lot of tax questions.
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Old 03-21-2009, 10:35 PM   #14
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The 25% is for a corporation. A sole proprietor can only contribute 20% of self-employed income.
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Old 03-22-2009, 07:46 AM   #15
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Thanks for the tips. Do you have any recommendations for a tax course? I usually use TurboTax for my taxes but obviously have a lot of tax questions.
I took H&R Block tax course in 2005. It cost about $200 at that time. The class time was over 40 hours, which was a lot for an 8 week class. The instructor was very good. I worked in a tax business part-time in 2006.
You can search local community college, etc. and may be able to come up with an equivalent course.
I took this course because all of my experience was in Schedule C, and I needed to understand the 1040 better. The H&R entry course covers the 1040, but not much time spent on Schedule C. They have advanced course(s) to cover that (more money, of course).
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Old 03-22-2009, 08:24 AM   #16
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Originally Posted by bank5 View Post
Thanks all for the help. I have a couple of newbie type questions:

1. A Solo 401k helps you save on Federal taxes but not State, correct? So my State quarterly payments should not factor in how much I've contributed to my Solo 401k?
Contributions are excluded from your taxable income at the Federal and State level.

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2. Say, I make $15,000 and have $5,000 in business expenses. The most I would be able to contribute to my solo 401 would be $9,325?
A question, did you contribute to a 401(k) at your day-job that issues you a W2? Did you read the link I posted up in message #11??


Also, you don't need a tax course, you simply need to read the tax publications that are freely available on the Internal Revenue Service web site. Just read the publications related to the tax form you are filling out with TurboTax.
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Old 03-22-2009, 08:33 AM   #17
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If you happen to be paying your own health insurance premiums and are not eligible for employer-supported health insurance at your day job, you can deduct the premiums as an expense to your sole proprietor or LLC job, I believe.
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Old 03-22-2009, 08:53 AM   #18
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2. Say, I make $15,000 and have $5,000 in business expenses. The most I would be able to contribute to my solo 401 would be $9,325?
What you can contribute to tax-advantaged accounts is a result of various "filters" in the tax process. You now know that business profit is one of the measures. In some tax software you can plug in different values, and see the effect throughout your federal and state tax forms.
Obviously, if you don't need the self employment income, you'd like to save as much as possible in a tax-advantaged account. Whether you can do this is affected by your 401(k) contributions and other factors in your particular situation. It sounds trite, but every situation is different.
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Old 03-22-2009, 09:20 AM   #19
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A question, did you contribute to a 401(k) at your day-job that issues you a W2? Did you read the link I posted up in message #11??
I contribute a very small amount to my day job 403(b). I don't get an employee match. I'm going to factor this in though and make sure I don't go over the $16,500 limit for both accounts.

My day job also has a 457b plan. So if I max out my 401k/403b contribution, I could always open a 457 account.
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Old 03-22-2009, 09:25 AM   #20
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Money is money. It doesn't matter whether it comes from your right pocket or your left pocket. Whether you contribute $16,500 from your day job or your free-lance work just does not matter except in the case of employer match. Note that you could contribute $16,500 from your day job and still be able to contribute some of your free-lance income to a solo-401(k).
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