Paying taxes as a freelancer sucks — that’s just the way it is. While there are multiple reasons to consider becoming a freelancer, the taxes usually aren’t one of them.
Established freelancers may enjoy more flexible work schedules and better pay. But they often lack benefits like health care and paid vacation — and a W2.
I’m not an accountant or know every possible situation. So I know that there are freelancers out there that do receive certain benefits and/or W2 forms under some circumstances or by working with recruiting firms.
But say you’re like the common freelancer. You work on the side or exclusively for yourself taking on various projects and contracts, invoicing your clients as you go. You’ll likely receive 1099 forms instead of the good old-fashioned W2. Unfortunately, paying taxes a freelancer comes at a higher cost as a result.
We’ll get into the details of forming an LLC and filing as an S-Corp., but before you waste your time reading the entire article, see if it’s even worth it! Check out this cool (and free) calculator to see if the savings work for you.
Paying Taxes as a Freelancer Hurts
Again, not all circumstances are the same — I can’t stress that enough. So I say this from my own perspective, not as advice. For me, I was handed my income on a 1099 and therefore, had to pay it like a 1099. That meant costly quarterly taxes throughout the year and a huge chunk of change out of my pocket.
That’s because the employer isn’t responsible for paying their end of the taxes on you. For instance, there’s a 12.4% social security tax and a 2.9% medicare tax. For regular employees, they pay one half and their employer pays the other half. In other words, you’re responsible for 6.2% on social security and 1.45% for medicare.
There are a near-endless amount of different circumstances and write-offs to consider. But to keep it simple, look at like this:
$100,000 income for a regular employee:
$6,200 in social security taxes
$1,450 in Medicare taxes
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$7,650 Total
Paying taxes as a freelancer on $100,000 in income:
$12,400 in social security taxes
$2,900 in Medicare taxes
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$15,300 Total
The difference here — $7,650 in regular-employee taxes vs. $15,300 paying taxes as a freelancer — is pretty stark. We’re talking about thousands of dollars in income that gets sapped away in excess taxes simply because freelancers don’t have someone on the other side picking up the other end of the tab.
Freelancers are being taxed as the employee and the employer!
While freelancers can write-off certain expenses to help reduce their tax burden, we’re not totally SOL when it comes to the tax-man shakedown.
Set Yourself Up Like a True Business
While it may seem extreme to form your freelance services into a business, it can have a huge positive impact on your bottom line. It also makes you look more professional.
Forming an LLC to file as an S-Corp is cheap and relatively simple. I can’t stress enough how much I recommend talking to your accountant or consulting a reputable one if you don’t use one. They know the ins and outs much better than most of us. Laws, tax rates and regulations differ so much from state to state, it’s nearly impossible to take a one-size-fits-all approach.
If you didn’t try out the calculator from before, now would be a good time to try out the S-Corp calculator on Inc File. It’ll give you a ball-park idea on how much you can save by making the change.
If it’s worth it, the process of setting up an LLC is pretty simple. For instance, you can set up an LLC (or other structure) online. There will be a few more tax forms to fill out throughout the year and consulting with an accountant annually helps to eliminate errors (and cut down the frustration).
In some situations though, it can save you thousands of dollars — literally.
Is an LLC Right for You?
There are several considerations to make before committing to an LLC. Admittedly, there are drawbacks and I wouldn’t create an LLC just to do it. That said, the positives tends to dramatically outweigh the negatives, mostly on account of the negatives are relatively limited.
When you form an LLC, your customers — current and future — take you more seriously. YOU take you more seriously, which is important too.
But forming an LLC can dramatically improve your tax situation too, while possibly providing additional protection to your personal assets.