With the end of the year fast approaching, now is the time to start thinking about money-saving year-end tax moves. This is especially true if you are self-employed or operate a freelance business.
There are some year-end tax planning strategies available to self-employed individuals and freelancers that could potentially reduce 2018 taxes. But these strategies must be executed before December 31, 2018 — so time is of the essence.
Timing Income and Deductions
Many year-end tax strategies revolve around the concept of timing the receipt of income and payment of deductible expenses. This can help you either defer revenue into next year or accelerate revenue into this year, depending on your particular tax situation.
By deferring revenue into next year and accelerating deductions into this year, you’ll decrease your 2018 taxable income — and along with it, your tax bill next spring. At the same time, though, you’ll be increasing your 2019 tax bill. So in effect, you’re delaying the payment of income tax on some of your revenue for one year.
Conversely, by accelerating revenue into this year and deferring deductions into next year, you’ll increase your taxable income this year and your 2018 tax bill. While this strategy might seem counter-intuitive, it could make sense if you expect to earn more money and thus be in a higher tax bracket next year than this year.
Keep in mind that these strategies only apply if you use the cash method of accounting for your business. According to the IRS, this method requires you to include “all items of income you actually or constructively receive during the tax year” in your gross income for the year. And it allows you to deduct expenses “in the tax year in which you actually pay them.”
What this means is that if you receive a check from a client in late December, you are considered to be in constructive receipt of that revenue this year — regardless of whether or not you deposit that check. Therefore, you must report that revenue on your 2018 tax return. And in order to deduct business expenses on your 2018 tax return, you must pay for these expenses before the end of the calendar year.
How to Do It
One of the best ways to defer income into next year is to hold off on sending out December client invoices until late in the month, or even until January, assuming your cash flow will allow this. And if you typically require upfront payments or deposits from new clients, consider waiving this or reducing the deposit amount for new clients you acquire in November and December.
To accelerate income into this year, take the opposite approach. Send out December and November client invoices as soon as possible and aggressively follow up with any clients who are past-due on their payments. Also be aggressive in the collection of deposits and upfront payments from new clients you acquire between now and the end of the year.
Meanwhile, to accelerate deductible expenses into this year, purchase and place in service any equipment your business might need before December 31, 2018. This includes not only heavy equipment but also computers, software, office furniture and company vehicles. Also purchase any office supplies you might need soon, such as the kinds of things you usually buy at Office Depot or Staples.
If you have any employees and plan to pay a year-end bonus, do so before year-end. You can also pay fourth quarter payroll taxes before December 31, 2018, in order to accelerate a deductible expense. Meanwhile, to defer deductible expenses into next year, do just the opposite in each of these areas.
Plan 2019 Estimated Tax Payments
This is also a good time to establish a plan for making estimated tax payments for your freelance business next year. Since money isn’t withheld from your clients’ payments to cover your state and federal tax obligations, you must make these payments yourself on a quarterly basis.
Estimated tax payments are due quarterly: on the 15th of January, April, June and September. You can use IRS Form 104-ES to help you figure out how much estimated tax you should pay each quarter. You can then make payments by check using vouchers included with Form 104-ES or electronically using the Electronic Federal Tax Payment System (EFTPS).
At least 90 percent of your eventual current year tax liability, or 100 percent of last year’s tax bill, must be paid quarterly. Underpayments can result in penalties and interest so it’s critical to estimate accurately.
Talk to a Tax Pro
Tax strategies are different for every freelancer and self-employed individual. Therefore, it’s important to consult with a tax professional to determine which of these strategies is best for your situation.