Calculation over estimation, and why is it important?

As a freelancer, you must have gone through the turmoil of filing your taxes. Tax time is generally hectic since you have to gather all of your documents, receipts and prepare your return. Writing a big check to the IRS is stressful enough and it gets a lot more hectic when you have to do it four times a year.

For freelancers, it is a challenge to arrange cash to pay for the quarterly taxes especially due to the irregular income. So it’s very important to plan for it and keep aside the amount that you owe.

Strategies for making estimated tax payments easier

One of the most fundamental elements of managing your taxes is to be organized. Estimated Tax Payments are split based on quarters, January-March, April-May, June-August, and September-December.

Tips

• Maintain a record of your income for each quarter as it will aid you in preparing your financial statements, identify sources of your income, and help you track your deductible expenses.
• Keep track of your business expenses to monitor your business’s progress and prepare your tax returns.
• Set aside money regularly to ensure you have enough to cover the amount you owe to avoid any underpayment penalties.
• If necessary, consult a CPA, or tax expert since they do possess strong analytical techniques and an eye for precision.
• It’s better if you don’t blindly rely on google to learn some tips and tricks for easy tax returns unless it is recommended by some credible source.

There are a few methods that you can adopt to plan for your estimated taxes-

Pay as per the previous year: This is a pretty simple strategy. People who pay their quarterlies based on the previous year's tax may prefer to draft their taxes before the end of the year and adjust what they have to pay based on the current year’s income during the fourth quarter estimated payment.

Here, you simply base your payments as per last year’s earnings simply by dividing last year’s taxes into four equal payments. So even if your taxes turn out to be higher than the previous year, you will be held liable for what you owe, but you won’t be charged any penalty.

For example, Jon summed up that he had to pay $12,000 in estimated taxes throughout the year, he divided the amount into four equal parts ($3,000) but he didn’t make his first payment until June 15 (when the second estimated tax was due), so his first payment would be $6,000. His September payment and his January payment would round off to $3,000 each. However, he may still owe an underpayment penalty for the first quarter.

Set aside money: Here, you can set money aside for taxes. This is the best way to keep it separate from your day-to-day expenses and avoid the temptation to tap into it for regular operating expenses. This is one common issue that self-employed individuals face is when they mix personal and business expenses. It is always better to separate accounts for business expenses. This will not only simplify estimating your expenses but provide records of your business expenses for easy reference.

Freelancers tend to make some common mistakes when it comes to paying quarterly taxes. They often neglect their cash flow and spend most of their time worrying about their unpaid bills. Keeping a track of your expenses is essential. Relying solely on your memory can lead to discrepancies that can either lead to overpayment or underpayment of tax. If you understate your income, the IRS would probably charge you additional taxes plus penalties and interest.

Freelancers often do not take into account personal itemized deductions such as home office expenses, mortgage, and charitable contributions. As a freelancer, if you operate your business from home, then you may be able to deduct expenses for the business use of your home.

All of the above methods rely heavily upon guesswork which often leads to confusion, thus Calculation is way more important than Estimation.

Calculation over estimation

Once you’ve figured out a way to keep a track of all your receipts and expenditures, you need to focus on your expenses and find deductions that apply to you. As per the IRS, you can deduct business expenses that are “ordinary and necessary” in your industry.

To accurately find your expenses, you can use Flyfin’s Quarterly Tax Calculator. Even though an expense may seem ordinary and necessary, it may not be considered a deductible. Therefore, it is essential to distinguish usual business expenses from expenses that include the following:

• Cost of goods sold
• Capital expenses
• Personal expenses

The following table represents the different types of non-business expenses:

Under certain conditions, there can be situations where the amount incurred can be common to both personal and business purposes. In such a scenario, divide the total cost between the business and personal parts and then you can deduct the business part.

If you manage to separate the expenditure between business and personal purposes, the business part will be deemed deductible. For example- Business use of your home, since most freelancers work from home, they can file for the home office deduction. You can apply for the home office deduction for a part of your home that serves as your main place of work and is used exclusively for that purpose, you can deduct the percentage of that space on your rent or mortgage.

Now that we have gone through different strategies to figure out your quarterlies, and established the importance of calculation over estimation, the next thing to focus upon is to distinguish between personal and business deductions and how you can make use of them to maximize your savings.

For this purpose freelancers usually rely on CPAs and tax experts, however, you can also figure out all the deductions that apply to you via FlyFin. It is powered by A.I. that works around the clock and scans through all your expenses to provide you with the most accurate deductions.