With the cost of living continuing to rise, many Americans with full time jobs, supplement their income by pursuing ventures on the side. These may include driving for Uber, renting out rooms in their home through services such as AirBNB, selling through a multi-level marketing company such as It Works!, or by selling homemade products through sites such as Etsy. Filing taxes can quickly become more complicated in these situations.
There are steps you can take to minimize the tax impact of your side jobs and make filing during tax season easier.
What is considered an actual business and what is considered a hobby?
How and where income is reported depends on whether the source of the income is from a business or a hobby. Both sources of income are reported differently on your federal income tax return, and they are treated differently for purposes of self-employment tax. Business income is subject to self-employment tax, while hobby income is not. If you intend to make money with a hobby, you can claim deductions but they cannot exceed your income. If you are earning money in a business venture, your deductions can exceed your income and you can carry those losses to past or future years.
Consult a tax professional or CPA
This will cost you money up front, but you will have a thorough overview of your finances, and it will save you money long term. A tax professional or Certified Public Accountant will provide you with insight as to how you can maximize your tax savings while avoiding common mistakes and unpleasant run-ins with the IRS. Having an educated and experienced tax professional or CPA is a great long term investment; you have to put money in, but you will gain more from it.
Save for Retirement
Contributing extra money to a 401(k) or Traditional IRA will provide an immediate tax deduction. Increasing your retirement contributions allows you to save for the future and save on taxes today. Contributing to a Roth IRA won’t save you money today, but later on you’ll be able to withdraw the money tax-free.
Contribute to a Health Savings Account
If you’re eligible for a health savings account, there may not be a better way to minimize your tax bill. An HSA is one of the only accounts that offers a TRIPLE tax-break. Here’s how it works:
Contributions are tax-deductible
Money grows tax-free inside the account
Withdrawals are tax-free when used for medical expenses
HSAs are a great way to get tax-free medical care. And since you can invest within a health savings account just like you would within an IRA, they are also quite possibly the best “retirement-like account” out there.
Deductible Business Expenses
Any money you spend on a business can be deducted at tax time, which lowers your owed taxes. You should track everything and keep documentation in case you are audited by the IRS and need to provide documentation. You are able to deduct phone and internet services that are used for business purposes, you can prorate this bill if you use these for personal use as well. You can also deduct your mileage, even if you are using your personal car. Be sure to keep track of your time and to keep all invoices and receipts.