Episode 21: Understand and Be Prepared for Taxes as an Independent Contractor

Taxes may be the one thing that trips up and causes more problems for independent contractors in the gig economy.

We are used to having taxes withheld. We are used to something straight forward like income tax. We are used to deductions keeping our income taxes low.

And then the self employment tax throws a wrench in the works. Everything is different. Self employment tax is 15.3% of EVERY. DOLLAR. OF. YOUR. PROFIT. There are no deductions. 

The best piece of advice that I can give you on taxes is don't take advice on the internet. And don't take it from a blog or podcast, not even mine. None of this information is intended as advice, but more education about how taxes work. It's important that you understand some basic things about taxes for independent contractors like ourselves: 

• Your taxes are based on your profits, not on your overall earnings. Keep good records of your expenses so you aren't paying more than you have to
• You have income tax AND self employment tax. Self employment tax is our version of FICA (Social Security) and Medicare that you see on a W2 - only we pay double what we do as employees (because the employer pays half).

Understand the differences, understand how the taxes work, and get a tax pro to help you understand what you need to be tracking and saving.

We linked to another blog post that was posted earlier that went into a bit more detail on taxes.

Earlier episodes that help lay a foundation for this week include:
Episode 17: Understanding Profit and Loss
Episode 18: Understanding your real expenses
Episode 20: Be prepared for major tax and vehicle expenses

A complete list of future and past episodes for the series can be found here.

Transcript

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Hey there. Welcome to the Deliver on your Business podcast where you are the boss. I'm Ron from EntreCourier.Com. Entre is from entrepreneur for somebody who is in business for themselves. And here's the deal, folks. If you're an independent contractor, you are operating a business ready or not. So that makes you an Entre Courier. Welcome to the club. This podcast is here to help you think like a business owner and to thrive in your business. So let's get started, shall we? Well, happy Sunday, Courier Nation. I hope it's a great day for you. We are nearly wrapped up with the finance part of the 31 Day Courier MBA series, or we are focusing on mastering your business attitude times like this. I wish I had the budget to pay for Copyright fees, but since this is all just coming out of my pocket and I'm not making any money on it, I'll just have to leave it to your imagination. We are talking taxes today and it'd be so appropriate to be able to play a clip of the Beatles song Tax Man, but I promise I'm not going to try and sing it to you. Okay, now, folks, to get started, let me give you the best tax advice that I can give to you as independent contractors in the food delivery world in the gig economy. Don't take advice from the internet, don't take it from blogs, don't take it from podcast, and especially don't take it from Facebook. In fact, don't even take advice from this blog or this podcast because this is not meant to be advice. Now, the only place that I recommend actually getting advice is from a tax pro to be worn. I'm going to say that a lot. Okay, this is not meant to be tax advice. Read it as something to explain more about how the taxes actually work and how they're actually a little bit different for us as independent contractors as they are. If you're an employee somewhere, the better you understand that about the taxes, the better you can prepare yourself for tax state when it comes up, you can sort of call this a bit of taxes 101 for delivery contractors, but I'm not even sure this is even 101 stuff. It's pretty basic level. There are some fundamental differences, though, between being taxed as an employee and as a business owner and as an independent contractor. You are taxed as a business, not as an individual for the money that you make doing delivery. You do need to understand that this is about your federal taxes. We are not going to dig into state and local taxes. We won't get into income tax any of that stuff. There are so many differences between how different States and different municipalities will do income tax that I have no idea what everybody is doing. Sometimes I'm not sure they have an idea what they're doing, but if you need help on those areas you really need to see a tax pro. Okay. I think the first thing that you need to understand and is that your tax as an independent contractor is going to be based on your profit, not on what these companies are paying you. This is something you've completely got to understand. This, do not make the mistake of paying the government based on whatever the gig apps deposit into your account, because then you're just giving money away. In Episode 17, we talked about profit. We talked about understanding what your profit is, and basically that's the money that's left over after your expenses. If you haven't listened to it, I really invite you to go back and listen to that, because that helps lay a bit of a foundation. We do not get a W2 as independent contractors. Instead, we receive it's called a 1099 form, and that just tells us how much they paid us. But there's no withholding. There are no deduction. It's their report of what they paid you. What you will do then is you're going to fill out a schedule C when you're doing your taxes, and on that you list your income, you list your expenses. On that form, it's known as a profit and loss form, and then you calculate your profit, which is how much more you made than your expenses. And it's that profit that you pay your taxes on. One thing that you need to understand is that there are actually two different types of federal tax that you need to be aware of instead of the one just being your income tax that you usually do. As an employee, you will pay income tax and you will have self employment tax. That can be confusing if you came from an employee background because we only had to worry about income tax, why are we being taxed for being self employed? Well, it's not really like a new tax or an extra tax, because as an employee, you will pay your Social Security and your Medicare, your FICO and Medicare. And basically it's the same thing here. Those things get deducted from a paycheck and they show up on your W2. But since there's no withholding as, we're just saying, you pay these things with your income tax, and that's what's known as the self employment tax. Now, there are some very different things between self employment tax and income tax, and I want to go over a few of those differences. Your income tax is going to be based on your taxable income, whereas your self employment tax is only based on your profits from your self employed work. What that means is that if you've got other income, let's say if you've got a W2 job, you've got other businesses. If you're filing jointly and your partner has income, all of that income is added up together, and then your income taxes based on that total. But like I said, the self employment tax is only based on the income that you had while you're self employed. So if you let's say, did self employment for a few months or that's a small portion of your income, and then you've got regular W2 income, you don't have to bother about self employment tax with that other income. Your self employment tax is only based on your profits as a business owner. Another difference is that there are no deductions for self employment tax on income tax. You subtract all of your deductions from your income, and that gives you your taxable income. Right? So you've got to make a fair bit of money before you start owing income tax on your self employment tax that begins with dollar one. As soon as you are making a profit, you are paying income you are paying. I'm sorry. Self employment tax on that profit, there are no deductions. And it's the same thing as your Social Security and your Medicare. If you've ever noticed like you had a small paycheck and it was so small that it didn't take out federal withholding they still took out your FICA and your Medicare. It's the same thing here. You pay Social Security and Medicare tax on every dollar you make. And the same thing is true with self employment tax, since this is kind of your self employed version of Medicare and Social Security tax. Now, if you hear me say FICA sometimes and you hear me say Social Security, other times it's pretty much about the same thing. Okay, something else that is a little bit different is income taxes a sliding scale tax. You know, you don't pay anything up until you've earned a certain amount of income, and it's not until you earn another level of income that it goes up where your self employment tax is a straight 15. That is taxed on every dollar of what you make or every dollar of your profit. Your self employment tax is one that is higher when you're self employed, then if you're an employee. Now, I mentioned earlier that this is essentially the same as your FICO or Social Security and your Medicare. But the difference here is you pay 15.3% when you're self employed instead of 7.65%, which is what is taken out of a paycheck that's double. You pay twice as much in this area. That's why this is very important to keep an eye on. There's a misconception about this because it's not really an additional tax. Basically, what's happening here is the government gets 15.3% of your pay, whether you're an employee or whether or not you're self employed. The difference, though, is that when you're an employee, your employer has to pay half of that tax. Well, who's your employer when you're self employed, you are. And so guess who gets to pay the employee half you do, and who gets to pay the employer half. That also just so happens to be you. So in a nutshell, then what happens is based on your income. Then you will pay income tax at a percentage of what your taxable income is, and you will pay self employment tax at one of your self employed profit. Your profit is basically what your taxable income is as a self employed person. And then if you had any withholding if you made any tax deposits or if you had any tax credits, you add all those up, and you take that off of your taxable amount. And that determines whether or not you have to pay in or whether you get a refund. You want to be sure that you are paying in deposits through the year so that you're not stuck with a two three $4,000 bill come tax day. That's kind of it. In a nutshell, as far as I guess kind of what those taxes are. And I want to talk about a few of the things as far as what that can mean to us, and some takeaways. Now, one thing I'm going to say, you can repeat after me because I've said it a few times. Get a tax pro. I know I'm repeating myself, but unless you are really comfortable with how taxes work, you really should get some help. And here's the thing. A lot of CPAs will actually hire somebody else to do their taxes for them, because they understand that if somebody is removed from the situation, they will see some things that they wouldn't have thought of themselves. So it really is a good idea. Get a tax pro, and a tax pro is going to pay for themselves. Here's another thing, as I was mentioning earlier, you're taxed on your. You're taxed on what's left over after you deduct your business expenses from the money that you get from Grubhub Postmates stored Uber Eats, Caviar, any of these companies that you're doing it as an independent contractor, you're taxed on the profits. And the thing about that is and one thing that a lot of people don't understand is you do not have to itemize your deductions to claim your business expenses. That is because all of these expenses are listed on a Schedule C you take it in a different place then where you itemize your deductions on your regular tax form and everything like that, because these are business expenses you do not have to itemize in order to claim those business expenses. Now, obviously this is going to mean you've got to record all of your expenses, all of them. It's very important that you record the expenses. You track your miles. You track every mile that you drive for delivery. Do not. And I repeat, do not rely on reports from any of the companies because they will almost always miss things. It is from the moment you go available until the moment you log off, you are able to record those miles, so you track every one of them. A lot of you will use an app like Stride or some of these other GPS based apps. And those are good. But I really recommend that you also keep a written record with a start and end on a Odometer because a lot of IRS auditors are old school often are known to prefer that written record. Now you are going to have other expenses as well. Generally, they're pretty small after you. Once you get past the mileage, there's really not that much left there's. Your cell phone is probably your next biggest one, and you can only record the percentage of your cell bill of what you use. So if you use that cell phone personally and 60% of the time is on business, you can only record 60% of your cell bill. If you're buying delivery bags, your cell phone holder, your cell phone charger different things that you need to do your deliveries. You can record those. Keep track of all of your expenses. Keep good records. It's just a necessity as a business owner. Now, as I say that I also say do not claim more than you're allowed to claim. There are things you cannot claim. You cannot claim food while you're driving because you are not actually traveling. You cannot normally claim your clothes because a particular uniform is not a required part of what you do. Do not claim more miles than you actually drive, and do not claim miles that are for personal use. You cannot claim a home office. If a home office is not a significant part of what you are doing. And especially if you claim a home office, that office has to be used exclusively for your business. Say it with me. Get with your tax pro, understand exactly what you can claim now, because you're self employed, and because you're able to write off a lot of income due to the miles that you drive, you're at a little bit higher risk for having an audit. And that's why it's really important that you one keep good records, keep your receipts, but to make sure that you're not claiming things that you cannot, because you're more likely to trigger an audit if you claim too much. Now, here's the thing. And I said this in yesterday's episode, if your expense deductions are so high that you end up with zero income, that's a good sign that you really don't have an income. I know that kind of seems obvious, doesn't it? But I see so many people that they brag about. Well, I've got so many miles that I can write off that I don't have to pay any income tax or anything. I have zero income. And it's like, folks, you don't realize that your car costs you so much more than what you realize. It's a lot closer to the $0.58 a mile that they allow you to claim that if you really have that many miles, you're not making money. Folks, you've got to understand that. Okay? And if you've got that many miles that you can write everything off, that's saying either you're lying on the miles or you're driving too much, neither one of those is good. Okay. There are some advantages and disadvantages to delivery work being part of a side hustle. So if you're doing this, let's say you've got other income, you're working another job, and this is your side hustle, you may end up having enough that's being deducted from your main income as an employee that you don't have to set aside as much, because maybe you're already covered on a lot of what your taxes would be doing. This again, get with your tax pro to figure out what you're really going to need, but also understand that you're not going to get as much of an income. I'm sorry, as much of a refund as you might be used to as well. The other side of that, though, is that if you do have another job, that income from that job is more likely to have already out earned all of your deductions. And what that means for you is that the money that you're making on your side hustle, you are going to be much more likely to end up having to pay income tax on the whole bit. There's no deduction that's going to impact your extra money here. You know, you're going to be at the full 12% or 15% or whatever your bracket is. Now, there are some income tax breaks for self employed individuals. Now, last year's tax reform added a couple of breaks and say it with me here. You want to check with your tax pro to find out if you qualify under the new reform here, they introduced a income tax deduction for self employed income, and that is your profit. So of whatever your profit is from your self employment, you can claim the deduction against that on your income tax, not on your self employment tax, but on your income tax. You can also claim a deduction that is equal to half of your self employment tax. And basically what that does. I think the idea is to try and equalize what your taxable income would be for your income taxes with what it would be in an employment situation. The good news on both of these deductions, and basically that comes out to a little more than 27% is that you claim them differently than you do, whether you're itemized and standardized or whatever. You don't have to itemize to claim these deductions. So it gives you a little bit of a break so that your income tax is usually not going to be too bad when you're self employed unless you have a lot of other income on top of it. But understand again, that those deductions do not go against that 15.3% self employment tax. Ultimately, the bottom line is and we got into this yesterday in yesterday's episode. It is up to you to withhold your employees taxes. Your employer is responsible for withholding taxes for you, and who is your employer? You are. So get with your tax pro. Let them look at all of your income, because that's why you can't really get a lot of advice on the internet or reliable advice on the internet, because everybody's situation is so different. Your income. It's different when it's just your income, and that's all you do is self employment stuff, or if you are doing this as a side hustle or if you're filing joint, and so you've got multiple forms of income, every situation is different. Everything is going to impact how you should do things. I talked to in yesterday's episode in episode 20 about how I save for taxes. It's going to be different for you than it is for me. The main thing here, folks, is make sure you understand the basics, and then, yeah, you got it. Get a tax pro. Seriously, if you're not sure about a lot of this stuff, a good tax pro, they're worth their money. And then some because they will find things that you never thought of. They will find things that you didn't even know what to look for, and they will either save you more money than what you pay for them or they'll keep you out of trouble. In either way, it's worth it. So budget that into your business. Now, I do have a little more detailed post that goes into this a little more. I've got a link in the show notes about that also has a video that kind of illustrates some of the things about how the taxes are done. So you may want to look into that a little bit. So check in the show notes for that. Folks, do yourself a favor. Understand how your taxes work. Don't let your taxes slip up on you. Save the money every week that you need to save to make sure that you can pay your taxes. And don't remember to go. You know what I'm going to tell you about getting a tax pro, right? Courier Nation, I want to thank you for tuning in and joining us today. I invite you to come on over to EntreCourier.Com or to deliveronyourbusiness.Com. They're both basically the same website. Deliver on your business. Just point you to the podcast page you can scroll through. You can look through older posts. You can look us up on Twitter, Facebook, even LinkedIn by searching for Entre Courier. And you can look for a podcast and all of the main podcast channels as well. Folks, always save this part for the end because I want to make sure I've earned the right to ask this by providing useful information. If anything that you get in this podcast on our website is helpful to you. If it makes any kind of difference to you at all, could you please spread the word? Let other people know about us? Let them get the benefit as well. If you could share us on social media, if you could tell people that you know who are doing delivery about Entre Courier, about deliver on your business. If you could leave a review at the podcast sites those reviews can help us get found. If you can spread the news, we can help more people succeed as independent contractors in the delivery gig economy. One last thing, my friends, please go out there, take control of your business. Go and be the boss.