So it’s that time of year again, the one we all dread: tax season. For some of you, you don’t have to worry about paying taxes yet, or you don’t have to pay taxes for royalties. Others of you are published and receive that lovely monthly check of royalties. Either way, whether you’re at that point in your writing career or not, here are some helpful tips and lessons on preparing and handling tax time. I’m going to be doing this in parts, so keep your eye out for the following segments.
First off, the big thing to remember is that in the eyes of the IRS, writing is listed under the hobbyist category. What does that mean?
Well a hobbyist is a person with, as you guessed it, a hobby. For the IRS there are certain careers that people pursue that are considered hobbies, but they do have the potential for monetary gain. Such career choices include things like writing, art, bowling, fishing, and collecting things like stamps. Some people find it easy money (though if they ever actually did write, they’d realize it’s far from easy). With writing you have the ability to write off deductions, which is definitely a perk at tax time.
→Did you know? Tax deductions are just reductions on your income that you claim on your taxes. Deductions include such things as: business expenses, business trips, rent/lease, student loan interest, and even certain donations (most places will let you know If the donation is tax deductible).
For the IRS it’s important to see who is and isn’t actually making legitimate claims. Because of this, the IRS pays extra attention to hobbyists that make claims on their taxes.
The IRS uses what is known as the “Hobby Loss Rule”. This rule basically dictates who is a hobbyist and who is a professional.
→Did you know? Most professionals will go by the 3-to-5 rule: you turn a profit in at least 3 of the last 5 years, including your current tax year.
According to About Money, in an article by Valerie Peterson, here are a list of questions the IRS considers when deciding who is a hobbyist writer and who is a professional writer.
• “Does the time and effort put into your writing indicate an intention to make a profit?”
• “Do you depend on income from the activity?”
• “If there are losses, are they due to circumstances beyond your control or did they occur in the start-up phase of the business?”
• “Have you changed methods of operation to improve profitability?”
• “Do you have the knowledge needed to carry on the activity as a successful business?”
• “Have you made a profit in similar activities in the past?”
• “Does your writing make a profit in some years?”
What you’re looking at when you’re trying to figure out whether you’re truly a professional is the income. For some it’s easy because your publishing house will send you a monthly royalty check. If you got that, then congrats! You, my good friend, are a professional. For self-published authors, though, it’s a little harder.
Are you writing and juggling a full-time job? Did you quit your day job and applied yourself completely to writing your novel? Are you publishing articles to supplementing funds or regularly publishing short stories? Intent is important and the IRS is taking that into consideration.
Even if you are balancing a 9-to-5 job and writing on the side, if you are turning a profit from your work, you can claim it. It’s just based on the profit you turn over.
Writer’s Digest explains this, by breaking down a scenario for its readers, “if your hobby writing generates $1,500 for the year and your expenses amount to $1,900, you will not enjoy a $400 loss against other income. You may deduct only $1,500 in expenses, making your net taxable income zero from writing sources” (source)
So you see, if you are writing and working, you can make a claim to writing as an occupation. You’ll file a Section C. You may take a business loss, but that’s okay, because by filing a Section C, you’ll be applying that loss to your entire income, which will lower your liability.
→Did you know? Section C is what you file when you’re self-employed.
For a normal 9-to-5 job, your company will take taxes out of your paycheck. But when you’re self-employed, you get pure profit until tax season comes around.
→Did you know? Those taxes include Social Security and Medicade, which accounts for about 7.65% of your paycheck.
With Section C, you now enter the world where you may owe taxes. Exciting, right? Okay, maybe it isn’t. But it isn’t as scary as you think it is either. I’ll break it down for you on how it works.
Scenario One: You write a story without making any expenses (i.e. tax deductible claims) and publish it. With this story, you gain a whooping $3,000. Congratulations! Well now tax time has come around, you’ve received your 1099 and filed your taxes. Because you didn’t have any deductions, you claim the full 3k. Out of that, 15% of it is for taxes (a hefty $450). Then, because you are self-employed, you are charged a self-employment tax, which is an additional 15% (yikes!). This makes the total amount you owe $900.
Scenario Two: You write a story. Before you wrote it though, you spent $200 in travel expenses and research. You also took a class on writing for $250. You publish the story, turn a profit of 3k, and file taxes. Well, you were smart and kept receipts and meticulous records of your business expenses, so you can now claim deductions. Your deductions equal $450. So, you can subtract that amount from your income, and your impressive 3k turns to 2550. Do your math again, and now you only owe $765.
It’s important to track your expenses and to keep detailed records of everything, that way if the IRS does come-a-knockin’, you can prove that every expense and claim you make is legit. Writer’s Digest suggests that a writer should do the following in order to make sure they safeguard themselves against an investigation from the IRS:
- Keep business records, either on an accounting software program or on spreadsheets.
- Maintain a separate checking account for transactions related to writing. (This not only proves business intent, but will make it easier to track income and expenses.)
- Attend classes and conferences to improve your skills.
- Advertise, network, seek new clients and keep a journal of
- these activities.
- If you plan to deduct vehicle expenses, keep a mileage log.
- Keep a phone log of business-related calls.
- Obtain any required licenses and insurance.
- Give your business a name.
- Chart future projects
As you can see, when it comes down to it, it isn’t that hard to separate yourself as a true professional. All it boils down to is that you keep an honest record of your expenses and pull in a profit.
Now that you have an understanding how the tax system will work for you, why don’t you check out about how the deductions work and what kind you can make?