A new side gig can be an exciting opportunity to make more money. But you don’t want to wind up like many first-time side hustlers—with an unexpected and large tax bill.
Getting your finances organized can be an important part of setting yourself up for success, and you want to be sure you’re not paying extra taxes. To do this, you may need to approach tax planning as a year-long process.
Figuring out everything can be difficult, especially if this is your first time taking on a side gig or contract role. But avoiding these common missteps could make a big difference.
1. Missing potential tax deductions
When you start a side gig, you become a business owner in the eyes of the IRS. As a result, you may be eligible for business deductions, or write-offs. However, if you don’t know what you can claim—or you don’t keep the proper records—you might be out of luck.
In general, you can deduct expenses that are considered ordinary and necessary for your business. These could include a wide range of expenses, such as buying water or snacks for passengers if you’re a rideshare driver or new software if you’re a freelance designer.
Make sure you keep receipts to verify your purchases. Credit card and bank statements can also be helpful for proving you made legitimate business purchases.
If you’re working through a company for a side gig, carefully review the forms they send. Sometimes, the form may list your total earnings and then break out different types of expenses—such as the fee that the company collects. You may need to remember to include the expenses when you prepare your tax return, or you could wind up paying taxes on that money.
2. Claiming deductions you shouldn’t
While business write-offs can help you save money, you don’t want to go overboard and claim expenses that aren’t allowed. Some common mistakes first-time sole proprietors may make include:
- Commuting miles: You generally can’t deduct the miles you drive from home to your first client or job site, or from the last client or job site back home.
- Home office deductions: The home office deduction is a real business write-off, but there are strict rules. For instance, you can’t deduct a spare bedroom that you occasionally use as a home office—it generally has to be an exclusive and regularly used place of business.
- Meals: You may be able to get a deduction if you’re traveling out of town for your side gig, or meeting a client over lunch. However, you generally can’t deduct the cost of your normal daily meals and snacks.
You may also want to clarify whether your side gig is a new business venture, or if you’re making money from a hobby. It’s an important distinction because you can’t deduct expenses from hobby income.
3. Skipping estimated tax payments
When you’re an employee, a portion of each paycheck gets taken out and sent to the IRS. As a sole proprietor, you don’t have to send the IRS money every week or two. However, you may have to make quarterly estimated tax payments if you expect to owe at least $1,000 when you file your tax return.
Be sure to set aside a portion of your income to make these estimated payments. In addition to income taxes, they should cover the self-employment taxes (approximately 15.3%) that you may have to pay on your side gig income.
Your estimated tax payments could be due four times each year:
- April 15, for income from Jan. 1 to March 31
- June 15, for income from April 1 to May 31
- Sept. 15, for income from June 1 to Aug. 31
- Jan. 15 (of the next year), for income from Sept. 1 to Dec. 31
If the due date is a Saturday, Sunday, or holiday, they’re due the next business day. You can make these payments online, by mail, or over the phone.
Calculating how much you should pay can be tricky, but there are online calculators that can help. Also, remember to deduct your expected business expenses, adjustments, and tax credits, as these can impact how much you’ll owe.
Missing payments or underpaying could result in a penalty, plus interest. However, you may be able to avoid the penalty if you paid enough that you’ll owe less than $1,000 when you file your tax return. Or if you made estimated payments for at least 90 percent of what you owe this year, or 100 percent of what you owed last year.
4. Underreporting your income
Another common mistake people may make is underreporting their income. Any money you earn should be reported—even if you received cash or the client didn’t send you a 1099-NEC or another tax form.
The IRS has methods for determining approximately how much income people with similar side gigs make. If the IRS audits you and discovers the unreported income, you could have to pay a penalty plus interest.
5. Leaving questions unanswered
If you’re not sure whether you’re doing something right, don’t leave your question unanswered. You could try reaching out to an accountant who specializes in working with people who have similar side gigs for a one-on-one consultation. The IRS also has many resources on its website—including information specifically for people with gig work.
Your tax return may also be more complicated this year, and some tax preparation services may charge you a lot, especially if you worked several side gigs. However, depending on your income, you may qualify for free tax preparation and filing through the IRS’s Volunteer Income Tax Assistance (VITA) program.
At Valley, we have experience supporting small business owners. Whether you’re wondering how to manage your new income or considering a small business bank account or credit card, our bankers are here to help.