For freelancers and the self-employed, responding to last-minute client requests and wrapping up projects before the holidays hit can make the end of the year hectic. While adding one more thing to your to-do list—like year-end tax planning—may induce a feeling of overload, it really is one task you shouldn’t skip, especially if you are looking to reduce the tax dollars that you pay come April. Keep the following tips in mind as you close out 2014 and you’ll take on next year knowing that you have given yourself every possible tax advantage.
1. Act now to accelerate deductions and manage your income for the current year.
Depending on what your income level is this year, you may want to defer some income items if you think it will help keep you from reaching a higher tax bracket or if your income will be near the thresholds for the additional Medicare tax ($250,000 if married and filing jointly; $200,000 if single; and $125,000 if married and filing separately). If this is the case, you may want to wait to send out invoices for December projects until January rather than billing during the last days of December. Conversely, if your income is likely to be higher in 2015 you may want to bill clients now so the income is received in 2014 rather than in the coming year.
On the deduction side, you may be able to accelerate your state and local income tax payments, real estate taxes, interest payments, or business investments, so think about any of these items which you may wish to pay for before next year is here.
2. Review estimated tax payments.
Setting up a plan for estimated tax payments due next year is wise—including the fourth 2014 estimated tax payment due by January 15, 2015. By calculating this payment and the first one due for 2015 (April 15 next year) you will have a preliminary idea of what your tax liabilities will be for this year so you have an idea of how much you'll need to set aside for this year's and next year's taxes.
3. Check your withholding and estimated tax payments now while you have time to fix a problem.
If you’re in danger of an underpayment penalty based on the calculations you made above, try to make up the shortfall now instead of waiting until your next tax payment. If you need assistance handling delinquent taxes or tax underpayments consulting a tax professional who specializes in these matters is a good idea.
4. Understand the new home office deduction safe harbor.
Keep in mind that you can deduct some of the cost of your home if you use your home as your principal place of business, use it to meet clients and customers in the normal course of business, or your office is a separate structure not attached to your home. The IRS allows you to deduct up to $5 per square foot of home office space up to $1,500 per year.
5. No health insurance? Apply now for health care tax exemptions.
Under the Affordable Care Act individuals without health insurance are mandated to pay a fee, or "shared responsibility payment" with their federal taxes. While there are exemptions to this mandate, including hardship exemptions, the process to qualify for an exemption, which must be approved by the Health Insurance Marketplace, can take several weeks. Therefore, if you are considering applying for an exemption, do it now.
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6. Maximize “above-the-line” deductions.
Above-the-line deductions are valuable because you deduct them before you calculate your Annual Gross Income or AGI. They are allowed in full and make it less likely that your other tax benefits will be limited. Common above-the-line deductions include traditional IRA and health savings account (HSA) contributions, moving expenses, self-employed health insurance costs and alimony payments.
7. Make the most of retirement account tax savings.
Without a traditional 401(k) like those offered by many employers, freelancers and the self-employed should be especially vigilant about funding their retirement savings. It’s not too late to increase contributions to your retirement account—or start one if you haven’t already. Traditional retirement accounts like an individual retirement account (IRA) still offer some of the best tax savings. Contributions reduce taxable income at the time that you make them, and you don’t pay taxes until you take the money out at retirement. The 2014 contribution limits for an IRA are $5,500 for an IRA ($6,500 for those 50 years of age and older). Of course, if you want to contribute more than this amount or you want to use a different investment vehicle, you should seek counsel from a financial planning professional.
8. Perform an overall financial checkup.
The end of the year is the ideal time to assess your current financial situation and plan for the future, in addition to starting to get your tax documentation in order. You may even wish to review your choice of business entity to see if a different business structure might be more advantageous from a tax perspective.
While your to-do list is likely long, adding at least a few of these tasks to it will pay dividends in reduced taxes and, potentially, the avoidance of future penalties. Plus, you will feel a renewed sense of control and preparedness going into 2015, something that can be an invaluable asset for you and your freelance business.
Jonathan Medows is a New York City based CPA who specializes in taxes and business issues for consultants across the country. His website, www.cpaforfreelancers.com, has a resource section with how-to articles and information for freelancers.