We near that time of year again when completing a tax return looms large. I am old school when it comes to maintaining a record of my expenses and income with a ledger book. I note down every receipt, sale or income in titled columns so that when tax time comes around all I have to do is add up the columns. Yes, I know there are numerous online programs and they do all that for you at the end of the year but I like to have more control and visually ‘see’ my year in black & white. Each to their own as the saying goes.
When we earn money by selling our words to websites and other publishers, the Government Revenue Service states you are a small business owner. Freelance income is self-employment income, and so are any royalties you receive for that book you published or self-published. That can be a good thing, because the self-employed are privy to some tax perks that employees don’t usually receive.
The income must be declared as business income for freelance projects.
Any income generated from freelancing must be declared on your income tax; you have to declare all your worldwide income on your return.
In the U.S., you report payments for freelancing on (IRS) form 1099-MISC (this should be provided to you by any business that has paid you $600 or more in a tax year).
In Canada you declare freelancing payments as business income on Form T2125, which is part of your T1 tax return.
Some costs you are able to deduct include:
- supplies such as printer paper, ink, and other office necessities
- that laptop you’ve been tapping away on all year
- software for the computer
- the fax machine and copier
- mileage, meals, and entertainment
- pretty much anything that is ‘ordinary and necessary’ to running your writing business.
Home Office Deduction
As a freelancer, you probably plant yourself at your desk each morning right there in your home. For this reason, you may be able to claim a home office tax deduction based on the percentage of your home that you use for work. For example:
- If your dedicated work space takes up 15% of the total square footage of your home, you can deduct 15% of your mortgage principal or rent payment, utilities, and insurance.
But if it’s your habit to work at the kitchen table, you’re out of luck because you likely use that room for other things as well as your writing business. Your home office space must be dedicated exclusively to your writing, so clean out that spare bedroom, move in your office equipment and supplies, and get to work
If all your income derives from publishing books, you should receive a royalty statement from your publisher(s). This income goes on Schedule C as well.
If you also held down a regular job during the year, you’ll only have to pay self-employment tax on the portion of the income you included on Schedule C. If you had more expenses than income from the publication of your book, this is a business loss. It can reduce the amount of income you have to pay taxes on, even if you earned that income from an employer.
Save Your Receipts and Invoices
Save every single receipt and invoice throughout the year. Whether you buy something in store or online, make sure you keep your receipt and file it away. When it is time to file your tax return, it is a lot easier to claim your expenses when you are organized.
The CRA requires you to provide receipts and invoices for expenses you claim. If you are audited, you need to provide supporting documentation to back up your claims. Without documentation, your claims are disallowed and you face penalties and interest.
Budget for Taxes
It is important for freelancers to budget for taxes. Unlike salaried employees, income tax and payroll deductions such as the Canada Pension Plan and Employment Insurance are not withheld at source. You need to contribute the employee portion and the employer portion of CPP and EI, which can prove costly.
A good year for business means a hefty tax bill. Make sure you budget for income taxes during the year. If your marginal tax rate is 30 percent, consider setting aside 30 percent of your earnings, so you are not left scrambling on April 30. If you owe $3,000 or more to the CRA in the current tax year and any of the last two tax years, you must pay your taxes by quarterly installments going forward. Instead of paying your taxes all at once before April 30, you have to pay them quarterly throughout the year.
Contribute to Your RRSP
Freelancers do not enjoy the perks of a company pension plan. CPP and Old Age Security are only supposed to provide a portion of your retirement income. To help supplement your lifestyle in retirement, consider contributing to an RRSP. RRSP contributions lower your tax bill in the current tax year, and your money grows tax-free. You defer paying income tax until you withdraw the money when you are likely to be at a lower marginal tax rate.
What’s your method for completing your freelance tax return?
Any tips for making it easier?