Record Keeping for the Self-Employed

Independent Representatives are considered “sole proprietors,” unless they choose to have some other form of business. A sole proprietor is just another way of saying “self-employed,” “independent contractor,” or “freelancer.” Income and expenses related to your self-employment is reported on your 1040, Schedule C tax return.

The first step to getting organized is to keep a separate bank account for the business to keep track of your income and expenses. 

INCOME

Separate your Independent Contractor income from other types of income. Keep a record of all your business-related income.

Deposits: Identify (1) the source of a deposit and (2) whether the deposit was in the form of checks or cash.  Keep copies of all deposit slips, noting on each slip the source of the deposit.  When the IRS audits a business, deposits to a bank account that are unaccounted for may be considered self-employment income.

As an Independent Contractor, you will receive a Form 1099-MISC in January or February to report total payments for the previous year. Form 1099-MISC is used to report income you received. The IRS also gets a copy of any 1099s. Your total business income on Schedule C Line 1 should be greater than or equal to the total amount of income reported on your 1099-MISC forms. If you report less income on your Schedule C than reported on your 1099s, you will get a computer-generated audit notice from the IRS asking you to explain the discrepancy.

EXPENSES

Disbursements: all payments should be made by check, credit or debit card or electronic funds transfer.  In an audit, proof of payment (cancelled check or account statement) by itself may not be enough to prove a business expense.  Match invoices to the proof of payment.  Avoid checks payable to cash, and avoid paying non-business expenses from the business account.

You must keep track of your business-related expenses. Try using the same categories on the Schedule C to categorize your expenses. You can track your expenses using envelopes to sort receipts, or using a spreadsheet program, or using a financial software program. The important thing to remember is you’ll need to keep track of who you paid, the amount spent, when it was paid, and what the expense was for (that is, the category or type of expense).

The most relevant categories of expenses for Independent Contractors include:

• Advertising – this includes business cards and web-marketing
• Insurance – for property & casualty, or business insurance. Do not include health insurance under this category.
• Other interest – credit card or loan interest, such as interest paid on your computer loan.
• Legal and professional services – such as fees your accountant will charge
• Office expense – anything other than routine supplies.
• Rent or lease other business property – rent paid on retail or meeting location, for example
• Repairs and maintenance – repairing your computer, for example
• Supplies – routine office supplies like paper, toner, pens, pencils, notepads, etc.
• Travel – the cost of traveling to a convention, meeting, or business trip
• Meals and entertainment – the cost of business meals, but be careful not to go overboard here as this is a common target in an IRS audit.
• Utilities –electricity, gas; percentage is deducted for home-based businesses.
• Other expenses – such as Dues & Subscriptions, Web development, and Business telephone expenses.

Health Insurance expenses. If you are self-employed and you pay for your own health insurance, then you can deduct the full cost of your health insurance premiums on your Form 1040 as a personal deduction. For record keeping purposes, be sure to make a separate category for health insurance expenses since that figure will be reporting elsewhere on your tax return.

Equipment. Keep track of computer equipment, software, furniture and other fixed assets in a separate expense category. When it comes time to work on depreciation expenses, you’ll need to know when a particular piece of equipment was purchased as well as its cost and the type of equipment that was purchased.

Estimated tax payments. Be sure to keep track of estimated tax payments to federal and state governments. This might not show up clearly if you run an expense report just for the calendar year, as the final estimated payment is due in January.

For questions regarding your business record-keeping or tax return, you may contact Darlene Evans, Padgett Business Services, 401-783-4500 or email devans@smallbizprosri.com

PADGETT BUSINESS SERVICES® is dedicated to meeting the tax, government compliance, profit & financial reporting and payroll needs of businesses with fewer than 20 employees in the retail and service sector of the economy. This publication suggests general business planning concepts that may be appropriate in certain situations. It is designed to provide complete and accurate information to the reader. However, because of the complexities of the tax law and the necessity of determining whether the material discussed herein is appropriate to your business, it is important you seek advice from your Padgett office before implementing any of the concepts suggested in this newsletter.

PENALTY NOTICE: As required by U.S. Treasury regulations, you are advised that any written tax advice contained herein was not written or intended to be used (and cannot be used) by any taxpayer for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.

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