Independent contractors that work in multiple global locations can easily overlook the most basic tax planning steps when moving between jobs. While there is an advantage if you can be mobile in offering your services, it can also complicate your tax picture and lead to financial problems due to different country laws and language barriers.
Here are the 8 most common tax mistakes made by contractors, to give you a basic idea of how to stay on track with all of your tax obligations. By avoiding these pitfalls you can reduce your tax bill, comply with tax laws and ease the worry of unanticipated penalties or back payments.
1. Not Seeking Professional Guidance
Many contractors are reluctant to pay for tax advice, given the cost and difficulty in finding a trusted professional. Since you are used to working for yourself, it seems natural to just file your own taxes and save the fees.
However, unless you are well-versed in tax laws and can do the paperwork, you may find that hiring an accountant or professional tax preparer can save hours of research and filing of forms. An advisor can help you with selecting a tax residency, choosing the right business entity and managing deductible expenses. You will also have the peace of mind that your tax return is correctly prepared, with no errors.
2. Failure to File Income Tax Returns
One of the worst mistakes that you can make as a contractor is to not file any type of income tax return in your country of residency. This is a tempting route if you have many cash payments or if your clients do not report payments to tax authorities.
Even if you are not declaring all of your income (which is not recommended), it is better to file a return than risk drawing attention to yourself by failing to file at all. If you have filed a return in the past, then not filing is an immediate red flag that could trigger an investigation into the reason. If you have past due returns from previous years, you should hire an accountant or lawyer to bring you up to date.
3. Being Unaware of Legitimate Deductions
As a contractor you have numerous legal business deductions available to you that can reduce your taxable income significantly. For example, most travel related expenses may be deducted from income, as well as amounts spent while working on-site with clients. These amounts can add up over a year’s time, and should be recorded and tracked.
Also, computer equipment, home office expenses and even meals can be deducted in some cases. Maximizing deductions is one way to legitimately reduce your tax bill, compared to an employee doing similar work for a company.
4. Not Keeping Track of Business Expenses
One of the requirements for claiming self-employed deductions is keeping accurate records and receipts for business expenses. In case of an audit, you will have to show documentation for expenses over a certain amount, and justify the deductibility. If you don’t track and document your expenses, you are losing one of the best advantages of being an independent contractor.
5. Incorrect Choice of Legal Business Entity
As a contractor, you can choose how you wish to do business, but not every type of entity will be well suited to your situation. Even if you work alone, you can still set up a corporate entity in many countries, which can be an asset if your contractor status is challenged at any point, and could have tax advantages.
Nonetheless, most independent contractors will operate in their own name as sole proprietors, which is the simplest form to manage with few registration or administration requirements. If you choose this approach, be sure to document all of your business invoices and expenses, to avoid being classified as an employee at a later date.
6. Not Tracking Changes to Applicable Tax Laws
Tax laws change frequently, and as a business taxpayer it is your responsibility to track the tax laws that may apply to you. This is one area where having a professional advisor can really be helpful, since they are obligated to let you know what changes can affect you tax status and amounts. Not knowing the tax law is never an acceptable excuse for missing filing deadlines or under withholding taxes.
7. Stating Incorrect Tax Residency
Many contractors have a choice of where they live, but tax residency is different may be subject to certain criteria in some countries. For example, US citizens are tax residents of that country regardless of where they live or earn income, and must file tax returns at home on all worldwide income.
Other nationalities may have a choice when it comes to tax residency, and you should research if some countries offer favorable tax rates or other statutory benefits such as pensions or healthcare for taxpayers.
8. Failing to Maintain an Accurate Tax Organizer
Whether you are planning on filing your own taxes or using a professional, it is essential to keep all of your tax documents and receipts organized for easy access when tax season arrives. Items such as previous returns, client invoices, receipts for expenses and tax withholding slips must all be organized in one place.
There are many inexpensive tax software programs that allow you to monitor and organize your taxes throughout the year, and will make your tax preparation a breeze.
If you can avoid these eight common mistakes then you will be better off than most contractors in the global marketplace. Because tax laws are complex, seeing expert advice is always recommended, so that you have an ally to help you navigate a new country’s laws. Also, keeping good records is essential, or you wont have the documentation to back up your deductions and income, potentially leading to audit problems or unanticipated underpayment.