Taxes – a subject that is not well liked (often paired with an expletive or two) and usually the last thing on a writer’s to-do list. But important none-the-less, because if you earn income from your writing, you have to deal with taxation.
At ThrillerFest this past July (a writing conference for…you guessed it, thrillers), I moderated a panel on taxes for writers. I thought it might be useful if I summarized a few important take-home points from the panelists along with a few relevant links and resources. For brevity’s sake, this article will only cover federal income tax laws and not state and municipal business tax laws, which vary considerably. If you have questions or concerns about your city, state, or federal income taxes, seek expert advice from a qualified accountant or tax lawyer.
In general, taxable income for writers is all income earned from the trade – advances, royalties, direct sales (like at a conference or book fair), works for hire or freelance writing projects (like articles, editing, proofreading, ghost writing), lecture fees, prizes, awards, and grants. It matters not if you received a 1099 at yearend for income. Writer’s income is taxed as ordinary income. Business expenses incurred can be deducted to limit the amount subject to taxation.
You can read more about the general guidelines to federal taxation and what’s considered to be income by the IRS on their website, or see the following resources — Susan Lee’s Freelance Taxation, or Murray and Crawford’s The Writer’s Legal Guide.
The basic rule is business expenses are deductible, personal expenses are not. To be a legitimate deduction, it must be an ordinary and necessary expense of operating a business. But ask yourself first – is your writing a hobby or a business? Because how you use your deductions to offset revenues depends on your answer.
1. Hobby-Loss Rules
Not every writer is in the business to make a profit. Some write for the pure love of it, some to have the occasional income, and others to self-publish that family cookbook with no intent of profiting. Accordingly, if you’re not reporting an annual profit from your writing on a relatively regular basis, the IRS may define your writing occupation as a hobby and limit what you can deduct.
For hobby writers, business expense deductions are limited to the amount of income earned that year from writing. You cannot report a loss, or take any losses against other income. But a writer in the business for profit may deduct all related business expenses (even if those deductions exceed the income earned from writing in the given tax year).
There are two ways the IRS makes the Hobby-Loss determination.
Threshold – The three-out-of-five-year test is the longstanding threshold test for distinguishing between business and hobby. If a writer can show a profit during three out of five consecutive tax years, it is presumed the writer is in the business of writing.
Motive – If you don’t satisfy the above threshold, don’t fret. The IRS will also consider a writer’s motive to earn a profit. The more a writer looks to be in the business of writing, the more likely the IRS will think the writer is in the business for profit. When considering intent for profit, the IRS looks at factors like your business routines and accounting (how you keep your records, do you have a separate business account), your expertise (education, publications, and credits), attending classes and conferences, and your time spent on writing and marketing (full-time writer dependent on writing for a livelihood or nine-to-fiver writing the occasional article).
For more information on motive factors see The Writer’s Legal Guide or Bonnie Lee’s article at Writer’s Digest. Or see Helen Sedwick’s article on Jane Friedman’s blog for a list of steps writers can take to convince the IRS their writing is a business. The list includes items like having a website, marketing your work, having a business name (mine is Prose-In-Progress, Inc.), obtaining a Federal Employer Identification Number (EIN), and applying for a local business license if required in your city or county.
2. So What Is Deductible?
Ordinary, Necessary, Reasonable — There are numerous articles and a few books that list what deductible items are ordinary, necessary, and reasonable. See Susan Lee’s Freelance Taxation, The Writer’s Legal Guide, or Helen Sedwick’s The Self-Publisher’s Legal Handbook. Legitimate deductions include expenses like advertising costs, writing materials and supplies, office equipment, office rental space, journals, professional fees, agent commissions, legal and accounting fees, and travel and car expenses (but only for business purposes). Some major expenses like a computer or office furniture might have to be depreciated over several years.
Home Office Deductions — While the rent paid for workspace not in your home is deductible, the IRS treats home offices differently. A home office must be a designated part of the home, and used on a regular basis as your place of business and for no other purpose. So the dining room table doesn’t qualify as a home office if you still throw those elaborate dinner parties celebrating your climbing books sales. But commandeer the dining room and use it solely for your office space, and you may be eligible to use the home office deduction.
A few things to remember about home office deductions:
– You need not have a full room dedicated to a home office. A corner in the bedroom will work, but only if it is exclusively the space for your writing business.
– You can deduct expenses for things like repairs to a dedicated office area.
– Expenses that benefit both the office and the whole home (utilities, insurance, cleaning, repairs, etc.) can be deducted but in proportion to the size of the office as compared to the house.
– If you take the home office deduction, there is a limit as to the deductions you may take in relation to your gross income. See The Writer’s Legal Guide or Writer’s Digest for examples of the limitations. If you need more information, consult a tax expert regarding your specific situation.
It may be a pain, but make it your habit to keep clear, current, and credible records. Doing so will make it easier to fill out your tax returns and pay estimated taxes. If you are audited, you will need the documentation.
Record income and expenses generated from writing on a spreadsheet or use accounting software like QuickBooks. Entries should note the date, the amount of money received or paid out, and the nature and source of that money. Keep copies of all checks, bills, and receipts. Do not comingle personal and business accounts. Use separate accounts (bank and credit cards) solely for your writing business.
If you have questions or comments, we would love to hear from you. Check-in next week to learn about the pros and cons of sole proprietorships, limited liability corporations, and S-corporations.
Photo credit: Images_of_Money via Visual hunt / CC BY