An easy guide to how freelancers can file taxes today
Freelance – the word sounds like working at will, setting up a business anywhere, and reaching customers directly. Freelancers are paid based on their contract and can also incur costs to complete the job. Keeping track of payments from multiple orders and thus paying taxes can sound awkward. So we got tips from Archit Gupta, Founder and CEO of ClearTax, on how to simplify the process and share how freelancers can easily file taxes.
Keep an eye on income
If you are a freelancer, you may receive payments on an order-by-order basis or quarterly or monthly based on your contract. Income represents income from professional services. You need to aggregate your invoices to find gross professional income. As a freelancer, you can then request deductions for expenses from gross income.
Professional income over Rs 30,000 per fiscal year can be deducted from TDS. This is deducted at source (by your customer) with every payment to you with 10% tax. The deducted TDS is deposited by the payer on behalf of the freelancer. You can claim this back when filing tax returns. The TDS rate is 7.5% for professional fee transactions from May 14, 2020 to March 31, 2021.
The demarcation and cash methods
As a freelancer, you should keep business books listing your income and expenses. Or you can ask a professional account to choose between two accounting methods – the accrual method and the cash method. With the accrual method, income and expenses are recognized as soon as they become due. The accrual accounting is independent of the actual receipt or the actual payment. However, with the cash method, accounting is based on actual income and payments.
From a tax point of view, the accounting method chosen should be uniform for each year and for the entire professional income. It’s great to keep track of your income from the start. With the accrual method, your tax liability arises in the year in which you create the invoice or post the expense. With the cash method, the tax liability arises in the year in which you receive the money. You can also use the cash method to claim a tax deduction for actual payments made in the fiscal year.
Some examples of expenses a freelancer can apply for a tax credit for:
- Rent for the premises (work area)
- Travel and transport costs
- Cost of repairs to your location, computer, printer or vehicle
- Depreciation on assets such as computers, chairs, desks, printers or vehicles
- Insurance costs, meals and other entertainment expenses
- Business support costs.
- Any amount incurred in providing professional services
If the cost of a freelancer is for both personal and professional use, a deduction is possible for the portion that is attributable to professional use. An example is the cost of operating and maintaining a vehicle that is used for personal and professional purposes. You cannot claim a deduction for personal expenses such as self and family health, household groceries, health insurance, etc.
As a freelancer, you can file an income tax return in ITR-3 form, which allows reporting of freelance and other income. Net professional income is taxed as corporate or professional income. You need to enter gross income and all expenses and deductions. The freelancer can report income from Indian and overseas sources and apply for credits if TDS has already been deducted.
Investments to save taxes
Tax saving tools like mutual funds, PPF, NPS, etc and insurance premiums (health and life) can also help you save taxes as a freelancer. Home loan deductions, child tuition fees, and medical checkups can also help you save on taxes as an individual taxpayer.
A freelancer will only be taxed if the annual income from all sources, professional and otherwise, is in excess of Rs 2.5 lakh. Other sources of income generally include interest on investments such as FD, dividends from stocks and mutual funds, capital gains, and home rentals (which exceed a certain amount per year).
If your gross earnings exceed Rs 50 lakh in a fiscal year, your account books may need to be audited under tax law. You can still submit your return under ITR-3. Also keep in mind that the last day to file income tax returns this year is November 30th, 2020 (for the previous period) due to the pandemic which is usually July 31st.