Taxes and the On-Demand Worker
Do you have an on-demand job? If you do, do you know how that impacts your taxes? Did you know that you are going to have to pay self-employment taxes and may have to make quarterly estimated tax payments? Or that there are ways to reduce the taxes you owe? If any of this is news to you, you may be in for a rude surprise at tax time.
Folks who work for Uber, Lyft, Grubhub, Virtual Assistant services, and other companies that provide on-demand products or services are classified as independent contractors instead of employees. (I think this classification is erroneous in many cases, but that’s for the courts to decide.) What’s the difference? First, employers incur certain expenses when they hire an employee that they don’t if they hire contractors. This is regardless of whether or not the employer offers benefits such as healthcare.
Think back to the last time you had a regular job and got a paycheck. Do you remember those taxes that were taken out for social security and medicare? That was only half the total amount; your employer paid the other half. He or she also paid other taxes and fees, such as unemployment taxes and worker’s compensation insurance. Employers don’t have to pay these things for independent contractors. Why? Independent contractors are business owners who must pay their own taxes and insurance. Let me repeat that:
Independent Contractor = Business Owner
Did no one tell you that you were starting your own business when you signed up to drive for Uber or do graphic design on Fiverr? Probably not, but that’s the reality of the situation. You are a business owner. Congratulations! Now let’s talk about what that means for your taxes.
Those social security and medicare taxes I mentioned earlier? You are now responsible for paying both halves of them. That’s 15.30% of your net profits. It’s called self-employment taxes. Income taxes? Check. State and local taxes? Check. Any state or local mandated insurances? Double check. You have to pay it all. Furthermore, if you will owe $1,000 or more for the entire year, you have to make estimated tax payments each quarter or pay a penalty come tax time. If you are in this situation, don’t panic; I’m going to tell you how to reduce your total tax bill and how to pay your estimated taxes.
Did you notice that I said you have to pay 15.30% of your net profits? The profit part is key. As a business owner, you are allowed to deduct certain expenses from your income and you only have to pay taxes on the remainder. The expenses you are allowed to deduct vary depending on the nature of your work. I’m going to provide two examples, one for a delivery driver and one for a virtual assistant.
I’ll start with the delivery driver. Let’s call him Joe. He delivers food for a small startup. His weekly earnings are deposited directly into his bank account. This is not his net income for tax purposes because he can deduct his expenses. His most obvious expenses revolve around his car. He can either deduct actual expenses (such as gas, maintenance, etc.) or he can deduct the standard amount based on mileage. The latter will usually yield a higher deduction for a delivery drive. This tax year the standard mileage rate is 0.54 per mile. That means for every 1000 miles Joe drives, he can deduct $540 from his earnings. To do this, he needs to keep track of the miles he drives (guessing isn’t allowed -if the IRS audits the return and he guessed, he could get in deep trouble). There are a number of apps he can use to do this automatically. He can also deduct tolls and parking fees that aren’t reimbursed. Car washes, detailing, and supplies can also be deducted. So can any license fees or commissions he pays to the city or the startup. Even part of Joe’s phone bill can be deducted, based on the percentage of his usage that goes to his job. If Joe pays for all or part of his own health insurance, he can take a deduction based on that as well. These deductions will reduce and potentially eliminate his self-employment taxes.
Now let’s look at Don. Don works at home for a virtual assistant company. Are there any deductions he can take? Yes. First, he can take the home office deduction. Like the mileage deduction, he can either take a standard rate ($5 per square foot up to 300 square feet) or a portion of his actual housing expenses (including rent, phone bill, internet, electricity, etc). The standard rate will usually result in a lower deduction for these workers (as opposed to drivers -see above) but it’s a “safe harbor,” meaning the IRS won’t question it in an audit. Other deductions Don can take include office supplies, postage, license fees, insurance payments, booking fees, software costs, and advertising. Like Joe, he can usually deduct a portion of his health insurance bill as well.
Are you in either of these situations? Then you can take advantage of the same deductions. Just be certain you keep good records in case the IRS audits you. I recommend taking pictures of all paper receipts and storing them online in your accounting software or an app such as Evernote or Dropbox.
Now for quarterly tax payments. The U.S. has a pay as you go system, which means you need to calculate your estimated taxes each quarter and send a check to the U.S. Treasury. At the end of each quarter, calculate your profits for that quarter and the amount of tax due on that amount. Project out the amount of taxes you will owe for the entire year if your profit levels stay the same. If the total exceeds $1000, send a check for one quarter or more of the total. You can also send one quarter of the total taxes you paid for the year to avoid any penalties, but you might have a larger bill due on April 15 next year.
If all of this sounds too complicated for you to handle on your own, find a good tax professional to help you. Make certain that anyone you hire is licensed; this means you should seek out an enrolled agent, CPA, or attorney. Most of the chain stores hire hordes of unlicensed preparers each year and run them through a short tax course; I spend a great deal of time fixing mistakes made on such returns.
I hope this was helpful. Feel free to contact me if you have any questions!