The Do’s and Don’ts of Filing Your Side Hustle Taxes
Running a side hustle is great. You get extra cash in your pocket, the opportunity to deduct more on your taxes and the confidence in knowing your skills and expertise are valuable.
But then April 15th rolls around and you’re surprised by a pretty hefty tax bill.
What happened? How did your joyous little side hustle turn into a financial nightmare?
If you’re used to an employer handling your taxes while you get a nice, fat refund check at the start of each year, filing side hustle taxes may feel like foreign territory.
Fortunately, it’s not as hard as it seems to file taxes for your side hustle. Whether you’re doing freelance transcription or turning your hobby into cash, follow these steps to be more prepared for your side hustle taxes.
How to File your Side Hustle Taxes
Most people who start a side hustle are sole proprietors or have a single-member limited liability company (LLC). Being a sole proprietor is the easiest way to get started. Forming an LLC gives you more legal protections, but isn’t typically required when you’re making money on the side.
In either case, filing your side hustle taxes isn’t much different than filing your “regular” taxes.
But there’s one huge catch…
When you’re an employee, your employer pays some of the income tax fees for you. And when you’re in business for yourself?
You’re responsible for the whole amount.
But here’s the thing – with a little planning and know-how, you can avoid a huge tax bill in April.
Prepare and Save
Each time you make money in your side hustle, set aside a percentage for taxes. How much you set aside depends on your tax bracket, but a safe number is 25% – 35%.
I know what you’re thinking.
“That’s a huge chunk of my side hustle income!”
But you’re only setting aside this cash in case you need it. If your tax bill is less than you planned for, you get to keep the difference.
Open a separate bank account where you consistently deposit funds to pay your taxes. Having the funds set aside in a designated account will make things easier when April rolls around.
Pay Estimated Taxes
The IRS gets a little cranky if we don’t pay the taxes we owe. Your employer usually takes care of sending money to the IRS periodically throughout the year, so you don’t think much about it.
But when you’re self-employed?
You’ve got to do that yourself.
What does that mean?
The IRS operates on a “pay-as-you-go” tax system, which means taxes are paid to the IRS as money is earned. Whether you have to pay estimated taxes throughout the year or not depends on how much money you make.
If it’s a hobby side hustle and you’re earning only a few hundred dollars total for the year, you may not need to make estimated payments. Paying what you owe in taxes when you file your tax return in the spring is usually enough.
But if you think you’ll owe over $1,000 in taxes due to the extra cash you earned in your side hustle, be prepared to pay estimated taxes quarterly or you may face a late payment penalty.
If it’s your first year with a side hustle, you probably don’t have much to worry about. But in your second year, talking to an accountant can get you set up for estimated quarterly tax payments.
Adjust Tax Withholding at Your 9 to 5 Job
If you don’t want to mess with paying quarterly estimated taxes, you might be able to adjust your tax withholding at your “main job.”
Here’s how that works:
You have more money withheld from your paycheck to offset the money you’d owe from your side hustle.
This way, you’re paying more throughout the year to try to avoid late payment penalties.
Calculate the withholding amount by using a tax withholding estimator tool. If you find at tax time that you’re getting a large refund, you can cut back on your withholding.
But don’t cut back too much or you’ll owe more than anticipated in April.
Keep Side Hustle Income Separate
Keeping your side hustle income in a separate bank account is a sanity saver. Plus, it may save you money at tax time.
Your side hustle is a real business and should be treated as such. Since “real” businesses have expenses they can write off, you may, too.
But paying your business expenses from your personal account can be a nightmare. Imagine going through every expense – both personal and business – for the entire year and trying to figure out what was personal and what was business.
Keeping your side hustle income in a separate bank account and paying expenses from that account makes tax time so much easier.
Maintain Good Records
To claim those business expenses, you’ll need receipts. Don’t resort to sifting through a shoebox looking for lost receipts.
There’s a better way.
Take advantage of today’s technology and store your receipts electronically in the cloud.
Whether you use QuickBooks, FreshBooks, or you find a free app that will store your receipts digitally, use your chosen tool consistently.
While you’re at it, use the accounting software to keep track of your income and expenses, so filing your taxes will be as easy as transferring numbers from one system to another.
Mistakes to Avoid when Filing Side Hustle Taxes
Mistakes are common when starting a side hustle. But don’t worry! Most mistakes are easily corrected without consequence.
Here are the most common hurdles to watch out for.
Don’t Forget to Track Your Income and Expenses
We all fall into that trap of “we’ll get to it later.”
Don’t do that with your bookkeeping.
Start a simple system that makes it easy to track your income and expenses as they happen. Whether that means using an app, pen and paper, or an Excel spreadsheet – use what works best for you.
Don’t Miss Deductions
Self-employed taxpayers have many more deductions available than most people realize. That’s why keeping careful records is so important.
Mileage, subscriptions, internet service, phone service, and office equipment are just the tip of the iceberg of expenses you can write off.
If you aren’t sure which expenses are deductible, consult a tax advisor before filing your taxes.
Don’t Pay the Late Filing Penalty
Don’t get caught not paying the right amount of taxes.
If you know you’ll make more than a few thousand dollars for the year in your side hustle, you’ll owe taxes quarterly.
If you wait to pay owed taxes, not only will you owe a larger sum than if you paid quarterly, but you’ll likely pay a penalty and interest on top of that.
Working from home is a dream, and filing your self-employment taxes isn’t as hard as it seems.
But you need to track expenses and deductions and consider paying estimated quarterly taxes.
Filing side hustle taxes does complicate things slightly. But it isn’t too bad.
If you prepare by setting aside a portion of your income, you shouldn’t have any surprises when filing your taxes.
And if you’re worried about claiming the right income or missing a deduction?
Check with a reputable tax advisor to make the process easier.