How to Help Freelancers Benefit From the New Tax Law
An increasing number of millennials are embracing the gig economy — the term used to refer to the labor market defined by short-term contracts and freelance work.
Nearly 50 percent of millennial workers have already become freelancers, according to the annual Freelancing in America study by Upwork and Freelancers Union. Examples of this significant workforce including freelance journalists, contractors, Uber and Lyft drivers and Airbnb hosts. What’s more, research from NASDAQ shows that 43 percent of the American workforce is expected to work as freelance or contract workers by 2020.
So, as an advisor to this growing freelance workforce population, the question remains: How will you help them benefit from the 2017 tax reform legislation?
2018 Opportunities With 2017 Tax Legislation
The newly enacted federal tax legislation presents great opportunities this year for freelance workers, since one of the most significant changes incorporated in the new legislation was to reduce the corporate tax rate from the current 35 percent rate to 21 percent in 2018. Unlike large corporations that are taxed at a flat rate, most small businesses, and freelancers, are structured as “pass-through” entities; as a result, the profits from the business flows through to the business owner’s personal tax return and are taxed at ordinary 2018 income tax rates.
While pass-through income will continue to be taxed at ordinary income tax rates, under new tax provisions many freelancers will be eligible to deduct 20 percent of their “qualified business income” (QBI) starting this year. In other words, in 2018 certain freelancers properly utilizing pass-through entities will only be taxed on 80 percent of their pass-through income.
If you are a tax advisor to a freelancer operating as a self-employed individual in 2018, you can assist them to take advantage of the above tax benefit by helping them to establish an LLC or S corporation (pass-through entities) in 2018; this will enable them to both operate as a service provider in their trade or business and report the related income net of expenses on their 2018 personal income tax return. The U.S. Treasury Office of Tax Analysis has estimated that pass-through businesses comprise more than 95 percent of business tax filings, and that the 20 percent income deduction this year will provide tax relief similar to that provided regular corporations.
The 20 percent deduction does not reduce any other income in determining regular adjusted gross income on a freelancer’s 2018 Form 1040. However, eligible freelancers are entitled to the 20 percent deduction whether or not they itemize this year. While the 20 percent income reduction decreases regular business taxable income, it does not decrease a freelancer’s 2018 self-employment income tax.
Based on their net income this year, freelancers may or may not owe any income taxes. However, under a separate IRS regime, they may be obligated to pay self-employment taxes, which are applicable once they earn $400 or more annually. If a freelancer has $400 or more in earnings, he or she will likely have a self-employment tax liability and must file a federal income tax return.
In 2018, freelancers can also take advantage of additional tax benefits such as the increase in standard deductions ($12,000 for single persons and $24,000 for married couples). This is significant as almost 70 percent of 2013 taxpayers utilized the standard deduction compared to itemized deductions, according to the Tax Foundation.
There are limitations on the 20 percent deduction, however. Freelancers in the fields of accounting, actuarial science, specified service businesses, health, law, performing arts, consulting, athletics, financial services and brokerage services are not eligible. Overall, the sentiment of the 20 percent income reduction should be favorable among freelancers and other independent contractors, since it is in effect, a tax cut.
Beyond the above 2018 tax planning opportunities, many more are available. And, while the self-employment tax will still apply in 2018, deductible business expenses can reduce this cost. Therefore, you can also advise freelancers to keep track throughout 2018 of their professional fees, training and education, licensing and certification fees and supplies and travel costs.
Additional 2018 Opportunities
Advise freelancers that the cost of a workspace utilized exclusively for business purposes can be deductible — this includes workspace in their home.
You can also advise freelancers to deduct the business use of internet lines, connections and utilities; software and hardware; telephone and applications; and real estate taxes and similar charges. As a tax advisor familiar with these related rules, you can provide great value in guiding freelancers to navigate strict IRS record keeping and documentation requirements. Be sure to cite your experience in representing freelancers and individual contractors before the IRS and ask them for referrals. You can also provide freelancers with additional value as a savvy and experienced business advisor and consultant.
With the new tax laws, you can advise freelancers to take other important next steps:
- Establish a self-funding retirement plan to attain tax-deductible contributions and accumulate tax deferred investment assets. Then, help them design a proper investment allocation attendant to their risk tolerance and savings horizon. Advise them to periodically contribute to the investment plan throughout the year and review it semi-annually to maximize asset accumulation.
- Review health care plan options, including plan deductibles. Help freelancers to look for long-term disability plans and life insurance coverage as well. Assist them to seek organizations in their industry offering turnkey benefit plans they can affiliate with to obtain group coverage rates, which are often significantly less than individual rates; assist them to do the same for all their insurance and risk management needs. Oftentimes group coverage discounts can be attained for cost-effective supplemental coverages such as eye and dental benefits.
- Advise freelancers to take advantage of accelerated depreciation and asset expensing deductions to reduce their tax liabilities related to assets used in their business. As a result of tax reform, in 2018 businesses can deduct 100 percent of the cost of qualified property, and retroactive to September 28, 2017. While the amount of bonus depreciation decreases by 20 percent until the provision sunsets in 2027, the law also expands the types of property eligible for bonus depreciation to include used equipment and film, television and stage productions. There is also a second expensing rule tailored to small business, known as Section 179, which allows a business to immediately expense up to $500,000 in property placed into service each year.
- Utilize separate bank accounts and credit cards to ease record keeping and documentation for business expenses. Freelancers should invest in basic accounting and tax assistance software to organize their financial information; this can assist you as their advisor, and help to maximize your value to them by allowing you to focusing on higher level services. Assist them to calendarize dates by which you need them to email important information to you, especially as related to tax filings and related due dates.
If you are focused on the above key takeaways and services to freelancers, it is now time to meet with them and start delivering 2018 advice. Be sure to check-in with them regularly throughout the year, and utilize a services calendar for yourself, to help them ensure their business operations are aligned with their overall goals. After you’ve done this, help them use their tax savings to hire a great business coach!
You might also be interested in
Timothy Speiss is the Partner-in-Charge of the firm’s Personal Wealth Advisors Group and Vice President of EisnerAmper Wealth Planning LLC. Tim has more than 30 years of experience in providing comprehensive tax planning and related investment, compensation, and financial planning services to senior executives and board members of Fortune 100...