How Are Independent Contractors Taxed?
Independent contractor taxes are based on the Internal Revenue Service’s self-employment tax rates. Therefore, businesses that hire self-employed contractors do not have to withhold taxes from wages.
If you earn $400 or more per year, you must file a Form 1040, Schedule SE, and Schedule C.
An independent contractor must also pay self-employment tax (SE) quarterly. These contribute to Social Security and Medicare. However, unlike employees whose employers hold taxes, contractors must use their taxes to cover these expenses.
You can report quarterly estimates on a Form 1040-ES, Estimated Tax for Individuals.
A freelancer can submit Form 1099-NEC and Form 1040, Schedule C, to the IRS at the end of the year. This will account for their total tax liability; it will also entitle them to any refund from estimated taxes they paid earlier in the year.
Businesses that hire contractors do not pay any taxes on their behalf, and they do not file taxes for them. Therefore, the freelancer must keep accurate financial records to file appropriately.
Who Is Considered an Independent Contractor?
An independent contractor, also known as a freelancer or 1099 contractor, is a person who performs work as their own business entity. They can be:
- A registered Limited Liability Corporation (LLC).
- A sole proprietorship.
- An S-corporation.
- A self-employed person working under their own name.
The IRS defines an independent contractor as a business or individual who performs services for other businesses. If a business hires someone and does not know if they are a contractor or employee, there are a few distinctions:
- The contractor has freedom over where, how, and when they work.
- The business only controls the result, not the method, of the work.
- The business pays for a service only, not health insurance, social security contributions, or other benefits.
- The contractor works independently, beyond any management or authority of the business.
Here is an article that explains the difference between an independent contractor vs. an employee in more detail.
How to Calculate Independent Contractor Taxes
An independent contractor establishes their own payment schedule. Usually, this is on a weekly, biweekly, or monthly basis.
They must keep accurate financial records to file the appropriate tax documents for their quarterly estimates or annual income tax.
The timeline for quarterly freelancer or independent contractor taxes is as follows:
- April 15th. Reports all income earned from January through March.
- June 15th. Reports all income earned during April and May.
- September 15th. Reports all income earned from June through August.
- January 15th. Reports all income earned from September through December of the previous year.
State income taxes for freelancers will vary based on each individual’s location. However, they must be current on any deadlines or modifications to their respective states’ 1099 contractor tax reporting policies.
Do Independent Contractors Pay Their Own Taxes?
Independent contractors must file and pay their own taxes. No business is responsible for paying taxes on behalf of a freelancer, regardless of the duration of their working relationship.
An independent contractor’s income is not considered a salary as there are no additional deductions or withholdings from the business.
However, a business that enlists the services of a freelancer must send them a Form 1099-NEC at the end of the year to report all income paid during the previous calendar year.
If you earn $600 in a calendar year from any client, you have to claim the income, but they do not have to send you a 1099-NEC. However, suppose you are unsure how to invoice clients or file taxes correctly as a freelancer. In that case, employment lawyers specializing in contract law can help you.
Likewise, if you are a business owner planning to hire contractors, a lawyer can help you generate an independent contractor agreement. This document will protect both parties from litigation and set appropriate boundaries for the client-contractor relationship.
When Do Independent Contractors Need to Pay Taxes?
An independent contractor who expects to earn $1,000 or more in tax liability will have to file quarterly tax estimates. They must pay taxes by each quarterly due date, or they can face penalties when they file their total income at the end of the year.
Although you may have to submit estimates at the appropriate deadlines, all freelancers share the same tax deadline with W-2 employees: April 15th.
The quarterly tax payment deadlines are:
- April 15th. Taxes are due for income earned between January 1st and March 31st.
- June 15th. Taxes are due for income earned between April 1st and May 31st.
- September 15th. Taxes are due for income earned between June 1st and August 31st.
- January 15th. Taxes are due for income earned between September 1st and December 31st.
If you cannot make any quarterly tax payment, you can submit an IRS Form 2210 to waive the fee. You will have to explain why you could not make a payment and include proof, such as:
- Bank statements
- Evidence of disability, injury, or hospitalization
- Retirement documents
The IRS will disperse any overpayments through a refund when you file your annual income.
If you cannot file your independent contractor taxes by April 15th, you can submit Form 4686 to request a six-month extension. However, it is important to note that this is only an extension to submit paperwork.
To avoid penalties, you must pay all taxes you owe to the IRS by April 15th.
Independent Contractor Taxes vs. Employee Taxes
There may be confusion for employers on an independent contractor vs. employee. However, the primary differences are how they perform the work rather than the result.
This example between a local contractor and a new employee can help illustrate the difference:
- Sam is a content writer who offers blog writing services for local businesses.
- A small bakery finds Sam’s website and requests that he write several blog posts for them.
- Sam sets his own pricing, hours, and deadlines as a freelancer. He informs the bakery that the blog posts will be ready by the end of the month.
- The bakery also hires a young woman to run its digital marketing strategy in-house. In addition, the bakery issues a W-2, withholds taxes from her paychecks, and offers job benefits, such as social security contributions and health insurance.
- The employee has to report to the bakery Monday through Friday, 9 AM to 5 PM, work on approved platforms and use a work computer to complete her job.
- Sam works on his own, and he submits the blog posts and an invoice at the end of the month.
- The bakery approves of the blog posts, pays Sam, and ends their work relationship.
- The employee that the bakery hired receives her tax document and files an annual income tax report with the IRS.
- Sam files his 1099-NEC and Schedule C, along with other 1099s from additional clients.
The tax documents for contractors are different from those issued when hiring employees. For example, when hiring a contractor, the employer must provide a Form W-9 and, after services are finished, a Form 1099-NEC.
Form W-9 is a request for the freelancer’s taxpayer identification number (TIN) and their legal name. If they work as an LLC., they may provide their business name in place of their own.
The IRS suggests that businesses that work with contractors keep copies of W-9s for at least four years.
Independent contractor taxes are filed by individuals using Form 1099-NEC and Schedule C. You should have a Form 1099-NEC from every client you performed work for in the previous year.
If you earned less than $600 from a particular client, they are not required to send you a Form 1099-NEC. In this case, you can report the income on Form 1040, Schedule C. You should not exclude any earned income from this document.
Employer Taxes When Using Independent Contractors
Employers must give each freelancer they work with a Form 1099-NEC at the end of the calendar year. Form 1099-NEC reports how much a business pays non-employees, including self-employed contractors.
Getting Extra Tax Guidance
If you’re still unsure about creating the freelancer-employer working relationship, help is available. An experienced employment lawyer can answer all of your questions and help you draft independent contractor agreements, which are best suited for your situation.
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