In a NutshellAs an independent contractor, filing your taxes can be a different process than if you were a full-time employee. Here are some things you need to know and how you may be able to take advantage of certain tax breaks to reduce your federal income tax obligation.
This article was fact-checked by our editors and Tolla Tu, tax specialist with Credit Karma.
If you’re an independent contractor, you may be on the hook for more federal taxes than you’d pay if you worked as an employee. But you may also get the opportunity to take certain business-related tax deductions that employees can’t claim.
Providing services for other businesses as an independent contractor may suit you better than working for a company as an employee. But it’s important to understand what federal taxes you’re responsible for as an independent contractor, so you don’t get a nasty surprise come tax time.
Let’s look at some things to know about paying and filing federal taxes as an independent contractor.
- Who’s considered an independent contractor?
- What taxes do I have to pay?
- Do I have to make estimated tax payments?
- Can I deduct business expenses?
Modern work and business relations can be complex. How do you know if the IRS considers you an independent contractor or an employee?
At a high level, the IRS considers you an independent contractor if the business or person paying you has the right to control or direct only the result of your work, and not what you’ll do or how you’ll do it. If the person or business that’s paying you does get to tell you what you’ll do and how you’ll do it, then the IRS says you might be an employee and not an independent contractor. But this can be a complicated question, and whether you are an independent contractor or employee depends on the facts in each case.
As an independent contractor, you’re automatically considered self-employed by IRS standards. But not all self-employed business owners are independent contractors.
For example, you may sell products you make online. Since you control the results of your work — deciding what products to make, how many, when you’ll make them and when they’ll be available for sale — you probably wouldn’t be considered an independent contractor.
Examples of professions where people offer their services to the general public and may be considered independent contractors include the following:
If you’re an independent contractor, you’ll generally file an IRS Schedule C or C-EZ with your tax return.
But unlike many small businesses, you may also receive Form 1099-MISC from companies you do business with, helping you report some or all of your income to the IRS.
If you’re not sure whether a company you work with considers you an independent contractor, read over your contract or reach out and ask.
If you’re considered a self-employed person, you’re typically required to pay self-employment tax in addition to federal income tax. The self-employment tax, which includes Social Security tax and Medicare tax, is similar to the Social Security and Medicare taxes withheld from the pay of most wage earners.
“For most of us who are employees, our employer pays half the employment taxes, and then we pay the other half,” says Austin Carlson, a certified public accountant and tax attorney with Gray Reed, a Houston-based law firm. Generally, employers withhold the employee’s portion from their wages and pay it to the IRS on the employee’s behalf.
But “if you are self-employed, you have to pay both the employer and employee share, with some adjustments,” Carlson says.
The self-employment tax rate is 15.3%, consisting of 12.4% for Social Security and 2.9% for Medicare. Unless you pay yourself as a W-2 employee, you’ll need to pay the self-employment tax and your income tax directly to the IRS. Typically, you’ll do this when you make quarterly estimated tax payments.
If you’re self-employed you may need to make quarterly estimated tax payments to the IRS, especially if you believe you’ll owe $1,000 or more when you file. These payments are typically due on April 15, June 15, Sept. 15 and Jan. 15 (for the previous year’s final quarter).
“There are two big reasons why it’s important to pay in during the year,” Carlson says. “It helps you avoid a situation where you don’t have the cash to pay a large [tax] bill, and it [helps] ensure you don’t get hit with an estimated tax penalty.”
How much you owe will depend on your expected adjusted gross income, taxable income, taxes, deductions and credits for the year. Since those figures aren’t always easy to nail down, you can use Form 1040-ES to help you estimate how much to pay.
If you’ve structured your business as a sole proprietorship, partnership or S corporation, your income from the business may pass through to you as the owner, and you’ll pay your individual income tax rate on the taxable amount. That’s also the case with some limited liability companies.
If you’re planning to make estimated payments, you can do so online through the IRS website, by phone or by mail.
If you’re a business owner, you may be able to take advantage of certain tax breaks that aren’t available to wage earners.
“The Tax Cut and Jobs Act implemented at the end of 2017 created a new deduction [the Qualified Business Income Deduction] that many independent contractors will be eligible for,” Carlson says. If you qualify to take the so-called pass-through deduction, it can help you deduct up to 20% of your qualified business income.
You may also be entitled to deduct other ordinary and necessary expenses you’ve incurred for your business. These deductions effectively reduce your business’s taxable income and, ultimately, could lower how much you owe in federal income tax. Here are just a few types of expenses that might be deductible.
- Legal and professional fees
- Various insurance premiums
- Travel and meals
- Business use of your home
Keep in mind that some of these deductions have limitations. Depending on the nature of your business, you may also qualify for certain business credits, which can directly reduce your tax liability.
Where do I go to find out if an expense is deductible?
The IRS provides a comprehensive list on its website, along with some guidelines for when an expense is deductible and how much you can deduct.
Being an independent contractor can give you a lot more freedom to do your work the way you want to. But independent contractor taxes can get a little more complicated than those of a W-2 employee.
Understanding how federal taxes work and how you can take advantage of available deductions and credits can make it easier to file your federal income tax return and decrease your overall tax liability.
Relevant sources: IRS: Publication 334, Tax Guide for Small Business | IRS: Independent Contractor Defined | IRS: Independent Contractor (Self-Employed) or Employee? | IRS: Self-Employed Individuals Tax Center | IRS: Self-Employment Tax (Social Security and Medicare Taxes) | IRS: LLC Filing as a Corporation or Partnership | IRS: Estimated Taxes | IRS: When Are Quarterly Tax Payments Due? | IRS: 1099-MISC, Independent Contractors and Self-Employed FAQs
A tax specialist with Credit Karma, Tolla Tu has international experience in accounting, tax, finance, banking and consulting. She holds a bachelor’s degree in financial management from Beijing University of Chemical Technology, a master’s in corporate finance from Central University of Finance and Economics as well as a Master of Professional Accountancy from Montana State University. You can find her on LinkedIn.