Freelancing For Fun & Profit - Part Three: The Tax Man Cometh

by John Dodge

This is the third article in a series about freelancing in radio production. Originally there were only going to be three, then I realized there's a lot more to it than that! For those of you just tuning in, check out the May and June '93 issues of RAP for the preceding articles. If you don't already get the magazine and you have any freelance business income at all, you'll learn in this installment that there's an extra incentive to subscribe: it's tax deductible! So are dozens of other expenses that you're not allowed to take when you're "working for the man." Speaking of the man, this article is devoted entirely to your dealings with those hard-working folks at the Internal Revenue Service. Don't turn the page. You need to know this stuff.

It's Not Just A Good Idea, It's the Law

Before we get started, let me state the obvious: tax evasion is illegal. Caesar gets a chunk of every bit of income you make from every source, no matter how obscure. Tax avoidance, on the other hand, is knowing the tax laws and not paying a dime more than you're required to pay. That's smart money management and a good goal to strive toward. Also, you should know I'm not a tax specialist or a CPA. But, I've been freelancing for 20 years in one way or another, and I know the self-employed tax laws pretty well. Having said that, I'd still advise you to get some professional tax advice before you start raking in the freelance bucks. Not only is it money well spent, but guess what? It's deductible.

I'm All Alone

In the beginning most freelancers have a one-person business, what the laws call a sole proprietorship. It's casual. It doesn't even require setting up. All you need to do is fill out a Schedule C at tax time. No big deal either, if you've kept good records, and I don't mean LPs. Buy a ledger and keep track of your client's name, the project, the date the invoice goes out, the date the check is received, and the amount for each individual job. You'll need to tally up the latter figures because those are your "gross sales." To arrive at the net figure, the one you'll actually owe taxes on, take out the following deductions and be prepared to back up each one with receipts.

Less Is More

Here are examples of what comes off the top of your gross income -- your deductions: advertising of any sort (your box ad in a trade mag), bad debts (you do work, get stiffed), car expenses (you drive to see a client, drive to the studio on weekends, drive to pick up supplies), depreciation or expense deduction (you buy a synthesizer to make jingles), insurance (you insure your synthesizer), interest (on your synth loan), legal and professional services (you hire a lawyer or tax advisor to explain all this in more detail), office expenses (you buy stationery with your corporate logo), repairs and maintenance (your synth blows an oscillator), supplies (tape, boxes, labels, CDs for production, guitar strings, other expenses required to produce income), travel (you fly to Dallas to develop new business), meals and entertainment (you schmooze clients). Watch out! As of this writing, only 80% of these expenses are deductible (and this is the IRS's reddest flag). Utilities (you phone clients long distance), other miscellaneous expenses like postage/overnight mail, rented studio time, talent fees, trade magazines like RAP, and "how to" books that relate specifically to your work. And that's just the short list, folks! If you think that keeping a paper trail of all these deductions is a pain in the neck, you're absolutely correct. But your savings are so substantial, it's definitely worth it.

Home Sweet Home Office

If you think the IRS scrutinizes your meal and entertainment expenses, that goes double ditto for home offices. These deductions quintupled during the recession of the early '90s when everyone suddenly became consultants, so now the IRS is really strict about who qualifies and (mostly) who doesn't. You have to do the majority of your work in your dedicated home office to be eligible to take the deduction. Example: you write all your freelance copy in the spare bedroom at home, but you produce at the radio station. Sorry, you don't qualify.

Self Employment Tax

For freelancers, this is the equivalent of FICA or social security tax. It's a fairly simple math formula on Schedule SE. The IRS even lets you deduct 50% of this tax on your Form 1040. Go figure. Literally. There's a cap on the amount of FICA you have to pay. So, if your salary at the station is high enough ($55.5K in '92), you can skip SE altogether -- you've already paid in the maximum, and that gets you off the SE hook. If you make less in salary, you'll owe self employment tax on your freelance income and you must submit Schedule SE with the rest of your tax forms.

Withholding:

There are two ways to handle this. You can file quarterly payments on your freelance income -- 1/4 of the total due in installments by January, April, June, and September 15th -- or you can increase your W4 withholding at the radio station to cover the extra tax you owe on your freelance and just pay as you go along. Whatever you do, don't wait until the end of the year to figure this out because the Feds want either 90% of your total tax bill by year's end or a sum that's equal to 100% of what you paid in last year. Otherwise, they sock you with a penalty, and a fine from the IRS is the definition of insult to injury. You've probably realized that this process involves "guesstimating" your yearly freelance income four times a year. That's right. What if that income goes up and down unpredictably? You can make revisions each quarter based on what you've made over the past three months, so you're not stuck with unrealistic figures.

Fuzzy Logic:

If all this tax talk makes your eyes glaze over, hire somebody to walk you through it. As I mentioned, it's deductible. But, I'll repeat some free advice that the tax folks will charge you for: keep good records. Get a file folder or even a shoe box and save any paper that could possibly relate to your business. Keep a separate mileage log if you do a lot of driving. You'll need physical proof of these deductions if they're ever challenged by the IRS in an audit.

Next month we'll wrap this up -- no more hidden chapters, I promise. Our final angle will be on going solo. Some folks take the leap and succeed, some belly flop, but everyone I've ever known that left a company for the life of an entrepreneur found out it was more or less unlike what they thought it would be. Till next time, hope you're deep in the middle of a cool summer.

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