Paying Your Dues: Independent Contractors and Taxes


The independent workforce plays a significant role in fueling the U.S. economy. For many individuals, freelancing can be a great way to manage your own working time. It could also be an avenue to get some extra income on the side.

Businesses, on the other hand, often hire independent contractors during challenging times. The skills and expertise they offer are highly specialized. The talent they provide can sometimes serve to be amazing assets for companies.

The Gig Economy

As the unemployment crisis happened in the previous year, many individuals sought freelancing as an opportunity to stay productive and keep earning. Businesses also preferred this alternative type of work arrangement for the flexibility it presented.

There is one thing that can be confusing for freelancers and businesses alike, however. Paying taxes when freelancing services are involved. Filing paperwork is never a fun task for anyone. Taxes are no exception. Here are some things to look out for if you’re planning to become an independent contractor or hire the services of one.

New Form, Same Process

It’s important to know that the Internal Revenue Service (IRS) will be introducing a new form in 2021 for freelancers. All non-employee compensation for the 2020 tax year and beyond should be reported in Form 1099-NEC.

The new form will replace Box 7 of Form 1099-MISC which was previously used to report self-employment income. The IRS hopes that this will help to differentiate and streamline income reporting for freelancers and their services.

Filing Taxes As an Independent Contractor

If you’re a freelancer, paying taxes on your own may get a little stressful from time to time. It’s important to always keep track of your finances. Managing this while running your own gigs can become hectic. Here are some necessary steps to follow when doing so.

First, make sure that you’re business has already been registered. Ideally, you should be registered as a limited liability company so it won’t complicate your tax returns. Consider hiring tax preparation services for independent contractors to help you sort out your accounting needs as well.

Always have a Form W-9 at the ready. This will only require the name of your business and Tax Identification Number (TIN) or Employer Identification Number (EIN). Clients will usually ask for this when they hire you to fill out your Form 1099-NEC.

You will receive a Form 1099-NEC at the beginning of each year from business clients who paid you $600 or more for a service in the previous year. Once you receive them, compare the numbers with your own records to guarantee that there are no discrepancies.

Lastly, file a Form 1040. This is what independent contractors typically use when they report and pay their taxes to the IRS.

Tax Deductions

man using laptop

You should be aware that you can help to reduce your business tax bill by deducting reasonable expenses. Many of the tax deductions available for small businesses may also apply to you as an independent contractor. For instance, there’s the home office deduction.

During the time of a pandemic, it’s no surprise that many people have been forced to work from their own homes. If you use an area of your house solely for work and no other purpose, you are allowed to deduct $5 per square foot from your taxes. This will only be applicable for a maximum of 300 square feet.

Hiring Independent Contractors

If you or the business you’re working for decides to hire the services of a freelancer, the most important thing is to classify them properly. Failing to distinguish independent contractors from regular employees can prove to be costly.

It may seem like an obvious thing to take note of, but these things do happen. It can often lead to lawsuits or criminal charges for a particular business. The general rule of thumb to identify whether you’re hiring a freelancer is if the business has the right to direct the result of work but not how it will be done.

Know how much you paid a freelancer for a particular work or service within a year. You should file a Form 1099-NEC to the IRS if they received $600 or more in cash or check. If the payments were made through credit card or other processing systems, filing the form isn’t necessary.

Regardless, this should be easy enough to accomplish. The information needed on this form is similar to the W-9 that you asked for from an independent contractor prior to hiring. As long as you were able to track your payments, it shouldn’t be a problem. It’s also essential that you give a copy to the freelancer to make sure everything is aligned.

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