How should an independent contractor handle his or her taxes?

Question

The employer does not withhold federal tax, medicare, or social security. Should the contractor pay taxes quarterly, or just wait until the end of the year? Is this how people fall into debt with the IRS? Thank you for you help.

Answer 1

As an independent contractor, you are mainly responible for paying your federal, state, and local taxes. The person you work for should issues a form call a 1099-Miscellaneous. This will show the total amount of money they paid you, but as you mentioned, they do not withold any taxes from this. You should find out how much your state and local taxes are as a percentage of your income and withold these amounts every time you get paid. As an independent contractor, I imagine that you will have some business expenses. These you should be able to subract from the money you receive from your employer. I am also guessing that as an independent contractor, you file a Schedule C (small business sole proprietorship) income tax return. This is where you will subtract your expenses for doing the work you did from what you were paid by your employer. This will help to lower your total income and your tax liability. If I were you I woiuld set aside around 15% of what I get paid to cover my federal tax liability. You would be able to lower this amount if you contributed some money to a traditional IRA which you can write the amount you contributed off of your taxes, again lowering the amount of income you have to pay taxes on. As you mentioned you want to pay these taxes on a quarterly basis.  If you call the IRS, your state, and local governments, they will send you quarterly payment coupons to make your payments with. Don't wait to the end of the year to pay a lump sum. This could cause you to have to pay a penalty for not making quarterly tax payments if all of your income if from your business operations. I hope this helps you out.

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Answer 2

File quarterly using form 1040ES.  If you just wait until the end of the year you will very likely be subject to penalties for underwithholding.

Answer 3

1.  By definition, a contractor is NOT an employee.  Therefore the person who pays him is NOT an employer.  The fact that most people say employer is telling.

2.  In theory, a contractor is paid by the job, not by the hour.  If he/she finishes the job early, they can leave and go do something else (they can even hire someone to sub for them).  Again, saying the job is paid by the hour is telling.

3.  If the facts and circumstances show that the person doing the work SHOULD have been classified as an employee, the person who is the defacto employer is in for a world of hurt.  They can be hit with the 7.65% fica/mc tax and a 100% penalty.  This is often detected through a payroll audit OR by the defacto employee filing a form SS-8 and asking the IRS to make a determination for their exact situation.

4.  For $25,000 of net income, a contractor could owe $3500 in SE tax alone.  The would get a 1/2 adjustment against their income, but a $250 reduction in income tax isn't going to make much of a dent in their tax bill.  

5.  A common problem is the clueless worker who agrees to this and puts nothing aside.  A single person (no kids, no credits) would find they owe $1745 in income tax and $3500 in SE tax for a total of more than $5200.  They often don't have the money.  So while they are simultaneously trying to pay off last year's tax bill, they now realize they have to put 25-30% aside for this year's tax bill.  That's half of their pay!

Even if they protest and successfully file form 8919, they only reduce the liability to $4000 (they still owe the income tax and 1/2 of the SE tax).  Plus the form SS-8 involves the IRS contacting the payer (who now owes the other 1/2 of the payroll tax) who having been ratted out will probably "fire" the worker....

Answer 4

If this is this persons only job then pay quarterly. If not you will get hit with penalties. Last year I waited until the end of the year just because I had another job and enough was being withheld.