Tax Tips For It Consultants And Contractors

Tax Tips for it​ Consultants and Contractors
I live and work,​ quite literally,​ down the​ road from the​ main Microsoft campus. No surprise,​ then,​ that I’m commonly asked by freelance consultants for free advice about how these selfemployed independent contractors can minimize their income taxes.
If I ​ can,​ I ​ try to​ weasel my way out of​ the​ discussion,​ offering up such basic tidbits as,​ Well,​ be sure to​ look at​ the​ home office deduction. And make sure you’re taking advantage of​ deductions for health insurance and pension funds.
Usually,​ those simplistic answers work. Everyone once in​ a​ while,​ though,​ I ​ encounter some guy who’s really motivated to​ save on​ taxes. Usually,​ someone now making good money consulting or​ contracting… When I ​ can’t deflect their questions in​ some other way,​ I ​ tell them about the​ three best ways that independent contractors have to​ save on​ taxes.
Technique #1 Smooth Your Income
Whatever you​ think of​ the​ US Internal Revenue Code,​ you​ need to​ know that it’s quite progressive. That progressivity means the​ more you​ make,​ the​ more you​ pay. the​ progressivity also means that if​ your income fluctuates,​ your income taxes go up even if​ you​ make the​ same money on​ average as​ someone else makes.
To give you​ an example of​ this,​ suppose that you​ compare two consultants,​ John and Jane. if​ John makes a​ steady $60,​000 a​ year and has a​ mortgage,​ a​ spouse and couple of​ kids,​ he might pay about $1000 over four years net of​ tax credits for these like his children.
In comparison,​ suppose that Jane averages $60,​000 a​ year,​ but sees her income fluctuate between $30,​000 a​ year and $90,​000 a​ year. if​ she also has a​ spouse,​ two kids and a​ mortgage,​ she’ll probably pay $8,​000 to​ $10,​000 over those same four years.
Please note that over the​ same four years,​ the​ two consultants make the​ same amount of​ money $240,​000. But what they pay in​ taxes differs radically. Jane pays eight to​ ten times what John pays. Bummer.
What can Jane do? Well,​ let’s bring this back to​ the​ example of​ working consultants. Jane can probably smooth her income. She can make sure that she’s not stacking two big retainers or​ performance bonuses in​ the​ same year. She can spread out yearend payments over the​ ending and beginning year in​ ways that smooth her income out. She can even try to​ stuff more of​ her expenses into the​ good years. in​ the​ good years,​ for example,​ she can buy new computers,​ take those graduate classes,​ or​ top off her pension.
Technique #2 Setup an LLC and Elect S Corporation Status
I’ve written and talked much about how S corporations save taxpayers money and how the​ right way to​ set up an S corporation is​ first create a​ limited liability company and then ask the​ IRS to​ treat the​ LLC as​ an S corporation for tax purposes.
Let me review the​ basics here again,​ however. Suppose that you’re making $90,​000 a​ year as​ a​ consultant or​ contractor. if​ you​ just treat your business as​ a​ sole proprietorship,​ you​ might pay $12,​000 in​ income taxes on​ the​ $90,​000 and then another 15. 3% selfemployment tax,​ or​ roughly $13,​500 on​ the​ $90,​000.
If you​ set up an LLC and have the​ LLC treated as​ an S corporation,​ you’ll still pay the​ same $12,​000 in​ income taxes. But you’ll only pay the​ 15. 3% selfemployment tax on​ that portion of​ the​ profit that you​ categorize as​ wages. if​ you​ categorize,​ say,​ $50,​000 of​ the​ profits as​ wages,​ you’ll pay $7,​500 in​ selfemployment taxes. the​ other $40,​000 in​ remaining profits,​ by the​ way,​ gets paid out as​ a​ dividendlike distribution.
Note,​ then,​ that the​ S corporation saves you​ roughly $6,​000 every year. Sweet,​ right?
Two quick points about S corporations First,​ S corporations require some extra tax and accounting so you​ don’t get to​ spend all of​ your savings. Some of​ the​ savings go to​ the​ lawyer,​ the​ accountant,​ and the​ bank. Second,​ you​ absolutely must set your salary to​ a​ reasonable level.
Technique #3 Relocate Your Residency
One final,​ easy planning gambit if​ you​ telecommute. Remember that there are states like Alaska,​ Florida,​ Nevada,​ Texas and Washington that don’t charge residents state income taxes. Accordingly,​ if​ you​ relocate to​ one of​ these states,​ you’ll automatically drop your overall tax bill because you​ won’t have state income taxes.
Sometimes,​ one of​ the​ benefits of​ independent contracting and freelance consulting is​ that is​ that you​ do get to​ live wherever you​ want. Why not choose a​ place that doesn’t tax your income?
But a​ caution Do be careful that you​ don’t get blindsided by the​ other taxes a​ state levies. For example,​ Washington state where I ​ live charges a​ one and half percent excise tax on​ service revenue. This is​ probably still less than the​ income taxes that many other states charge. But it​ highlights an important caveat Before you​ move to​ some other state,​ you​ definitely want to​ run the​ numbers and compare your current state to​ the​ possible new state.
Tax Tips For It Consultants And Contractors Tax Tips For It Consultants And Contractors Reviewed by Henda Yesti on July 03, 2018 Rating: 5

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