The internet—and specifically, social media—opened up a whole new world of money-making ventures, and millions of people have climbed on board. The COVID-19 pandemic accelerated that movement. Whether by choice or necessity, millions more joined the ranks of individuals chasing income—and sometimes, fulfillment—during their off hours.
The entrepreneurs who have embraced these side hustles, and sometimes parlayed them into full-time businesses, are everywhere. Instead simply translating an office job into a private gig—accountants working from home as tax preparers, for example—people are just as likely to have a full-time job in one field and take on side gigs doing something totally unrelated. A plumber might make YouTube videos of his stand-up comedy. A retail worker may want to model and so builds her reputation as a fashion influencer on Instagram. A school teacher could also be a workout enthusiast, building a base of OnlyFans subscribers.
These influencers all have three things in common. They have to pay income taxes on those on-the-side dollars. They need to know what a legitimate business expense is to offset that income. And a lot of them don’t know how.
A New Tax Form
You probably didn’t think about taxes when you took on your new venture. You just wanted to see if you could make a little money doing something you love and have a flexible schedule doing it. But now that tax prep time is rolling around, you have a list of income and expenses, a Schedule C, and a lot of questions.
The tricky thing is you won’t know whether the business expenses you claim are acceptable to the IRS unless you get audited and have to produce receipts. All the IRS wants on your 1040 and related forms and schedules are numeric totals.
Hang on to your expense documentation for three years after a filing date—longer if there are any irregularities, such as understated income, overstated property values, or a bad debt deduction.
Keep in mind, too, that any freebies you get from vendors, like cosmetics and hair products for a brand influencer or power tools for a woodworking YouTuber, are expected to show up on your tax return as income.
Is It a Business or a Hobby?
The IRS doesn’t want a Schedule C from you unless you’re actually operating a business, not just indulging a hobby. “A business operates to make a profit,” says Barbara K. Blacklidge, an Enrolled Agent (EA) who spent 16 years as a tax preparer for H&R Block. “People engage in a hobby for sport or recreation, not to make a profit.”
The IRS also looks at your track record over time. If you realize a profit in at least three out of five consecutive years, the agency will presume that you are engaged in it for profit, and your returns shouldn’t throw up any red flags, depending on the expenses you’re claiming.
If you still think the lines are blurred after considering your tax status, you can consult the IRS’s nine questions to consider. It may give you a better idea of the agency’s view of the difference between a business and a hobby.
Get Expert Advice Online
Blacklidge has been a Tax Expert for JustAnswer for the last ten years. JustAnswer is a platform that connects people with doctors, tax accountants, lawyers, vets, mechanics, and other verified and vetted experts for real-time assistance 24/7. The site has 12,000 experts that cover 700 categories.
In 2021, the site’s experts received almost 100,000 questions on taxes alone, and they’ve already gotten almost 7,000 questions in 2022. The Child Tax Credit, self-employment income, home office deduction, and cryptocurrency are some of the current trending topics. To get this expert help, you have to pay around $30–$70 per month, depending on the level of expertise required. The tax and finance category is $50 per month for unlimited questions. You can cancel anytime.
What’s a Business Expense? One That’s Ordinary and Necessary
So how do you determine whether you can claim an expense as a legitimate business deduction, especially if you have expenses that don’t fit neatly into Schedule C categories?
“The general rule is that any expense which is ordinary and necessary for the business is deductible,” says Blacklidge. “An ordinary expense is one that is common and accepted in your industry. A necessary expense is one that is helpful and appropriate for your trade or business.”
If you have items that are used for both business and personal purposes, only that portion of the expense used for business is deductible. For example, if you use video equipment for your business and also use the same setup for personal pursuits (making videos of family events such as birthdays and holidays, for example), only that portion of the expense attributable to business use is deductible.
As to clothing and makeup for video shoots, the basic rule is that if you can wear the clothing and makeup outside of the video shoot, it is not deductible as a business expense. If you wear a swimsuit for a TikTok video but also wear it to play beach volleyball during your off hours, you can’t deduct it.
On the other hand, a clown costume with theatrical face makeup would be deductible as a business expense, says Blacklidge… if you make at least part of your living as a clown, that is.
Everyone Has Questions About Business Expenses
For the 70 million freelancers in the US, the question of which business expenses will be accepted by the IRS is “a severe pain point in the entire community,” says Jaideep Singh, CEO of tax app provider FlyFin. That self-employed community, he says, is expected to grow to 86.5 million in the next five years. By 2027, freelancing will comprise approximately 51 percent of the total US workforce.
“Content creators, Uber drivers—they all keep Googling [their questions] and still aren’t really sure,” he says.
AI Sorts It Out
FlyFin, available for Android and iOS mobile devices, is a unique app that helps categorize business expenses for you. You connect all your accounts that contain expenses by providing your username and password for the related bank login and import transactions. It’s similar to how the personal finance app Mint works. (FlyFin uses Plaid, a leading third-party account aggregator.) FlyFin then uses artificial intelligence to assign Schedule C categories to each transaction. If it misses some or makes mistakes, you can correct them.
Expenses come on the screen one by one. You swipe right to accept it as a business deduction, left to classify it as non-business (that is, reject it), down to review it later, and up to ask a question of one of FlyFin’s CPAs. You can split transactions between business and non-business and view transactions as lists that can be searched, sorted, and filtered. If you’re ever audited, you have your digital receipts stored in the app.
FlyFin offers a seven-day free trial, though a credit or debit card is required. The Basic version ($84 per year) is designed for taxpayers with roughly $60,000 net annual income. It includes AI deduction tracking and limited CPA advice. Standard ($192 per year) is good for up to $120,000 net income and adds federal and state tax preparation done by a CPA, and audit assistance. Premium ($348 per year) is good for up to $218,000 net annual income and includes everything mentioned so far plus a designated CPA, and support for multiple additional tax entities, like one- or two-person LLCs and S-corps.
The AI, automation, and support FlyFin offers would be especially appropriate for culture creators and other self-employed individuals who need an easy-to-use and reliable digital space where they can store their deductible and non-deductible expenses, and get advice from experts on the legitimacy of specific expenses.
It’s an effective combination. “Machines are great at grunt stuff,” says Singh. “Human intelligence is a different thing.”
DIY Plus
The 2021 tax year is FlyFin’s first. If you’d rather get tax preparation help from providers who have been at it for years or even decades, you might use one of the best tax preparation software applications, some of which are designed specifically for self-employed individuals. They come from well-known companies like H&R Block and Intuit, which owns TurboTax.
Some offer the option to connect with an accounting professional via phone, chat, or screen share for an extra fee after they’ve “matched” you based on your financial issues. You can also upload your tax documents to a pro and have them prepare and file your entire return.
Immense Gray Areas
Even if you’re not making much money through your side hustle, it doesn’t mean you won’t ever get audited and have to haul out your expense documentation for an IRS auditor.
“Content creators, as well as other non-traditional self-employed workers, are often highly scrutinized,” says Brett Johnson, CPA and Vertical Account Manager at Xero. Johnson and his wife Logan, who is a special education teacher, had developed a social media following as they helped people grow their passions into sustainable, thriving brands. What began as their own “passion project” eventually morphed into a Schedule C venture, a side business called Passion 2 Brand.
Some entrepreneurs may be more comfortable thinking of their Instagram talk show or Facebook fashion tips as a side gig or hustle. But when it comes to taxes, not treating the work seriously puts them in danger of declaring losses for too many years in a row. “It’s key to treat these professions, despite how flexible or non-traditional they may be, like real businesses,” says Johnson.
Much of what gets reported on a Schedule C involves the same types of expenses whether you’re a high-priced attorney or a college student dancing on TikTok. Self-employed individuals may, for example, pay rent and utilities for the spaces where they work. They might have travel and meal expenses, advertising, and office supplies to claim.
“If someone is a lifestyle or travel blogger, you would be able to claim normal operating expenses,” says Johnson. “What becomes tricky is that depending on the type of video equipment you buy, the expense could be considered a business deduction or a fixed asset.”A lot of Schedule C businesses have immense gray areas,” he says.
Not surprisingly, Johnson thinks that self-employed people should consult an accounting professional. “As soon as you start making money and filing a Schedule C, you should be working with a CPA,” he says.
Johnson believes that many self-employed individuals opt for DIY tax preparation software because it seems intuitive and basic on the surface. “However, it’s important to understand that intuitive and basic are not very good qualities when it comes to taxes,” he says.
JustAnswer’s Blacklidge looks at it similarly. “Having a tax professional is not required,” she says. “But unless the individual can take the time to research and implement the tax rules when preparing their own return, it is always a wiser choice to use a tax professional.”
Don’t Sell Yourself or Your Work Short
Worried that the way you make money may not be acceptable to the IRS? There are many non-traditional occupations that are legitimate businesses and should follow the same rules everyone else does about reporting income and expenses. Failing to do so can result in penalties for tax evasion.
Take sex workers, for example. In her book, “The Tax Domme’s Guide for Sex Workers and All Other Business People,” author, tax professional, and former sex worker Lori St. Kitts discusses basic tax topics, like business expenses, what to expect in an audit, and office and file organization.
She also writes about issues specific to individuals working in the adult industry. Specifically, St. Kitts addresses deductions that can be claimed for specific types of sex work, handling income properly, and preparing returns legally. She believes that “the tax law is for everyone.”
In a February 2020 interview with Reuters, she said, “Regardless of what you do—if you’re in business for yourself, especially—you need to follow tax laws.” That includes strippers, escorts, actors in the porn industry, among others. As long as you declare all legal income, you can deduct legitimate business expenses, and that includes an ankle restraint in a dominatrix’s dungeon, St. Kitts said by way of example.
A Little Art, a Little Science
Some tax experts say that accounting is more art than science. To be clear, the IRS has rules, and it expects you to follow them or face penalties. As long as you don’t have to deal with complex topics like depreciation or cryptocurrency transactions or the home office deduction, following the IRS’s directives just takes some study and attention to detail, and some common sense.
Now that everyone and their dog (yes, you could claim your canine’s business income and expenses if they become a social media influencer) is turning passion into profit, new entrepreneurs have to think like businesspeople for part of their workdays. And tax experts are finding that the questions that come their way are a little more intriguing (dare we say, fun?) than they used to be.
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