In today’s world, it seems every other commercial you see talks about a “side hustle” people can do to earn extra money. Whether it is being an Uber driver or walking dogs, it is important to remember you must report the income you earn from your “side hustle” unless it is otherwise excludable. To determine what to report to the IRS, you need to answer some important questions:
Is this a hobby or a business?
Are you an employee, independent contractor, or self-employed?
How much will you make this year in your side hustle?
Hobby or business
According to the IRS, the key question is are you doing this to make a profit? The IRS provides a list of questions to answer in helping to determine whether your side hustle is a hobby versus a business. Below are a few of the questions:
Do you carry on the activity in a businesslike manner and maintain complete and accurate books and records?
Do you put the time and effort into the activity to make the venture profitable?
Do you depend on income from the activity for your livelihood?
Do you sustain losses due to circumstances beyond your control (or are those losses normal in the course of starting a business?
Do you change your methods of operation to improve profitability?
The IRS looks at the combination of the circumstances surrounding the activity to determine if it is a hobby or a business. If it is a hobby, then it is reportable in a different area of the tax form and is not subject to self-employment tax.
If it is conducted as business, then you move on to the next question.
Are you an employee, independent contractor or self-employed?
The distinction between being employee or independent contractor is critical. If you are considered an employee, then the business is responsible for remitting the applicable FICA taxes.
The US Department of Labor provides some guidance on whether an individual is an employee or an independent contractor. In addition, the US Supreme Court has indicated there is no single rule or test, but the “total activity or situation which controls” whether an individual is an independent contractor or an employee. To determine if a person is an independent contractor or an employee, the following factors are considered:
Is the work the person is doing an integral part of the principal’s business?
Is the nature of relationship one that is permanent?
Has the person invested a substantial amount in facilities and equipment?
How much control does the business have over the individual?
What is the person’s opportunities for profit and loss?
How much initiative, judgment, or foresight in open market competition with others required for the success of the claimed independent contractor.
If all of the answers to the question indicate the business has more control over the individual or that the individual is solely doing work for that one business, then it is more likely than not the individual is NOT an individual contractor.
According to the IRS, if an individual is an independent contractor, the business has the right to control or direct only the result of the work and not what will be done and how it will be done. If your side hustle falls on the independent contractor or self-employed side of things, you will be responsible for paying self-employment tax. If you are considered an independent contractor, you should remit a Form W-9 to the entity who will be paying you. At the end of the year, you will receive a 1099 from that entity if they paid you more than $600.
Self-employed individuals who run their own small business present an easier case when they operate independently of any other business and are not controlled by external organizations. For example, an individual who hand-crafts wooden artwork and sells it either at craft fairs as a means of making a living instead of a hobby is a self-employed individual and subject to self-employment tax.
How much will you make at your side hustle?
In addition to the elements above, how much you made or will make at your side hustle will affect how you should report your income to the IRS. If your net profit from your side hustle is more than $400, then you will have to report your income and be taxed on it. You may have additional opportunities for business-related expense deductions. Self-employed individuals should consult with professional tax advisors to ensure they report income properly.
So what should you do?
If your side hustle is going to be profitable, keep your business-related receipts and see a tax professional. If you are self-employed, you should consider visiting with an attorney to evaluate your options and determine if forming an entity for your side hustle is to your advantage. The attorneys at Avisen are experienced in assisting entrepreneurs with evaluating their options.
For almost 20 years Kim Lowe has lawyered from the trenches. Kim lawyers from experience, using her knowledge of the law and understanding of how both for-profit and nonprofit business enterprises operate.
Rachell Henning is a third-year student at Mitchell-Hamline School of Law's innovative Hybrid program. Rachell is an Avisen Fellow alum who enjoys spending time with her husband and two young daughters when she is not working or studying.