How to Best Avoid Paying Taxes as an Independent Contractor

Being an independent contractor comes with numerous benefits, such as flexible schedules and greater control over your work. However, it also entails additional responsibilities, including managing your own taxes. It is true that independent contractors are likely to pay more in taxes than W-2 employees. Unlike regular employees who have their employers cover a portion of their Social Security and Medicare taxes, you are responsible for paying both the employee and employer portions of these taxes. While paying taxes is a legal obligation, there are legitimate strategies available that can help you lower your tax burden. In this article, we will explore ways how to legally avoid paying taxes as an independent contractor. 

What is an independent contractor?

An independent contractor, according to the IRS, is a person or business hired to do work for someone else but is not considered an employee. Freelancers, consultants, gig workers, and small business owners fall under this category. As an independent contractor, you have the freedom to dictate your work, set your fees, and assume responsibility for managing your business affairs, including taxes.

The difference between tax evasion and tax avoidance

Before we delve into tax strategies, it is crucial to distinguish between tax evasion and tax avoidance. Tax evasion is the use of illegal practices to avoid paying taxes, such as underreporting income, overstating expenses, or concealing assets. It is critical to know that tax evasion is unlawful and involves harsh penalties, including fines and imprisonment.

Tax avoidance, on the other hand, refers to the lawful use of various strategies and provisions within the tax code to minimize tax liability. It involves organizing your finances in a way that reduces your tax obligations while still following tax laws.

How independent contractors report their income

Unlike employees who receive regular and predictable pay schedules, independent contractors have the flexibility to negotiate payment terms with their clients or payers. Depending on your agreement, the payment can be made through various channels such as checks, wire transfers, or ACH deposits. Note though that these payments are not considered salary or wages for tax purposes, as no taxes are withheld. 

During tax season, the payer must provide you a Form 1099-MISC, reporting the income paid in the previous year. If you’re working with multiple clients, you may receive multiple copies of the form. For earnings below $600 from a client throughout the year, you won’t receive a 1099-MISC form. However, it’s still necessary to report that income on your Schedule C.

Tax Tips To Avoid Paying Taxes For Independent Contractors

1. Write off your self-employment tax.

You can deduct your self-employment tax from your income tax. This legitimate deduction allows you to write off the employer’s portion of FICA taxes when filing your return. The IRS has a provision that automatically includes this deduction in your Schedule SE. Even if you accidentally forget to include it, the IRS will notify you of the error and provide a refund accordingly.

2. Take business expense deductions.

As a self-employed professional, you have the opportunity to lower your tax liability by deducting various business-related expenses. These expenses may include equipment costs, business vehicle usage, trade association memberships, and advertising and marketing expenses. It’s important to keep track of your receipts and accurately report these deductions on your tax return, typically on your Schedule C or the appropriate section depending on your filing method. By taking advantage of these deductions, you can effectively reduce your taxable income and optimize your tax situation as a self-employed individual. Check out this link for a more comprehensive guide on tax deductions for independent contractors

3. Utilize self-employment health insurance.

As a self-employed individual, you can benefit from tax savings by utilizing your self-employment health insurance. You have the option to deduct the premiums you pay for medical, dental, and qualifying long-term care insurance coverage for yourself, your spouse, and your dependents. To claim this health insurance write-off, you can enter it on Part II of Schedule 1 as an adjustment to your income. The deduction will then be transferred to page 1 of Form 1040, allowing you to enjoy the benefits, regardless of whether or not you choose to itemize your deductions.

4. Consider tax-advantaged investment accounts.

Another tip to reduce your taxable income is to contribute to a retirement account. Contributions to retirement accounts, such as IRAs or SEP IRAs, are typically tax-deductible. This means that the amount you contribute reduces your taxable income for the year, resulting in lower taxes. The funds you contribute can grow tax-deferred until you withdraw them in retirement, potentially leading to greater growth over time. 

5. Take into account the structure of your business. 

The structure of your business organization can have a significant impact on your taxes. For example, you may be able to lower your tax liability if you choose to organize your business as an S-Corp. Opting for an S-corp allows you to pay yourself a salary and potentially avoid self-employment taxes on a portion of it.

Contact our firm to avoid paying taxes on your 1099 income. 

While it may not be possible to completely eliminate your tax obligations, implementing an effective strategy can help you minimize your tax burden as an independent contractor. To ensure that you are making the most of all tax-saving opportunities, we strongly advise reaching out to our firm for assistance. We provide expert guidance and help ensure that you’re taking advantage of all the tax deductions for which you are eligible.