Updated: Aug 27
Another tax season has arrived, and it is time for freelancers, and independent contractors start the hard work: "To Decide what to write-off, for more savings on taxes." Although there is a misbelief that tax deductions are minimal and very few things are deductible, the truth is much simpler.
According to IRS, to be deductible, a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your trade or business. A necessary expense is one that is helpful and appropriate for your trade or business. An expense does not have to be indispensable to be considered necessary.
There are still a few areas with particular limitations, including meals, entertainment, clothing, home offices, health insurance, and vehicle expenses. Here are the rules and limitations related to these categories.
Meals with vendors and clients or while traveling for business are going to be deductible. However, it will only be deductible at 50%, meaning if you spend $100, you are only going to get a $50 deduction. The 50% rules exist in order to prevent exploitation to some extent.
2. Home Offices
Self-employed people are often afraid to claim home offices because they have heard it raises a red flag. It may be true that it raises your audit risk some, but that does not mean you should not take it if you do it correctly. You may deduct the portion of your mortgage, rent, property taxes, utilities, and repairs that corresponds with the business use of your home.
This proportion is calculated by taking the portion of your home that is used regularly and exclusively for business divided by the total square footage. The IRS is very strict about the exclusive requirement; if the space you are calling an office is also sometimes used as a guest bedroom, it is unlikely to qualify as an office space. To fix this problem, claim the portion of the guest room containing a desk and computer instead of the whole guest bedroom.
3. Vehicle Expenses
The expenses of using your vehicle for your business are overlooked by some people and exploited by others. There are two different options for deducting a vehicle expense.
Going for the standard mileage deduction method is much more simple. In this case, just record your total mileage for the whole year and determine the percentage of the mileage that is related to your business. Finally, multiply the total business mileage with the Standard Mileage rate. This rate is 58 cents per mile for 2019.
If you choose to claim the actual expense, you need to keep a record of the total amount you spend in the operation of your vehicle and multiply the amount with the business mileage percentage.
4. Health Insurance
If you are not able to participate in the employer plan of a spouse or your family's health insurance plan, you can still claim self-employed health insurance for amounts you have to pay. Unfortunately, you can not deduct the amount you pay for self-employed health insurance as a normal business expense. This means it doesn't reduce your self-employment tax but still applies as an adjustment to your income tax.
You can write off all training related expenses like online course subscriptions, tuition, books, etc. as a business expense for your freelance business, only if the training is related to your job.
6. Entertainment & Clothing
Entertainment expenses were used to be deducted at 50% like meals before. As of 2018, a new law passed, and entertainment expenses can not be deducted anymore.
There is a simple rule with clothing expenses. If you are paying for the clothes that you can only wear work like uniforms, safety goggles, etc., you can deduct those expenses. If you are paying for a pair of business suit to look more professional; however, you can not deduct it.
Managing all these different kinds of tax write-offs and keeping these special rules in mind is one of the most overwhelming aspects of working as a freelancer. Lunafi helps all independent workers and self-employed people get over this burden easily.