Freelancers and Deductions: Everything You Need to Know

Freelancers and Deductions: Everything You Need to Know

Introduction

Not everyone finds the appeal in a traditional 9-to-5 job. Many prefer the freedom to explore other interests, enjoy quality time with loved ones, or escape the monotony of a fixed routine. This is why freelancing has become increasingly popular – whether working comfortably from home, in a trendy café, or a bustling co working space. It’s important to note that freelancers, like salaried employees and business owners, are also subject to income tax laws and are responsible for paying taxes on their earnings.

Freelancing Income

Freelancing income is earned through specific assignments where you undertake work for a defined period and receive compensation upon completion and submission. Unlike traditional employment, freelancers are not considered employees nor are they listed on a company’s payroll. This arrangement means foregoing benefits like Provident Fund contributions mandated by labor laws. The beauty of freelancing lies in its flexibility – you’re not tied to an office and can work from any location that suits you, meeting agreed deadlines at your own pace.

Under Indian income tax laws, income derived from showcasing your intellectual or manual skills is categorized as “Profits and Gains from Business or Profession”. This income is taxable, and your total earnings include all payments received while practicing your profession. Keeping track of your professional income is straightforward with your bank account statements, especially if all payments are routed through banking channels.

What form to file ITR as a freelancer?

Form ITR-3

This is for freelancers who get business profits. This can include income from capital gains, house property or salary/pension.

Form ITR-4

This form is for those who select a presumptive income scheme under IT Act Sections 44AD and 44AE. It is applicable if freelancers work in a profession under Section 44ADA. It also applies if they have a business income as outlined in Section 44AD or 44AE.

The Income Tax Return ITR Form -4 is meant for small business owners that don’t maintain any books, but do maintain a sales ledger. Freelancers like online content writers in India, bloggers, and vloggers have to file the ITR 4 form.

People who are salaried and earning additional income from freelancing activities also need to fill the ITR-4 form.

How to file ITR as a freelancer?

Calculating taxable income for freelancers in India can be approached in two ways, depending on the gross receipts and the preference of the freelancer:

   1. Presumptive Tax Calculation under Section 44ADA:

• Applicability: If your gross receipts (total income before deducting any expenses) from freelancing activities are less than INR 50 lakhs in a financial year, you can opt for the presumptive taxation scheme under Section 44ADA of the Income Tax Act.
• Presumptive Rate: Under this scheme, a presumptive income of 50% of gross receipts is assumed as taxable income.
• Formula: Taxable Income = 50% of Gross Receipts
• Taxable Income = 50% of Gross Receipts
• Advantages: Simplified tax calculation without the need to maintain detailed books of accounts. Exemption from mandatory audit requirements by a Chartered Accountant (CA).

2. Net Taxable Income from Profit & Loss Account:

• Applicability: This method may be preferred if your actual net profit (after deducting expenses) is less than 50% of your annual gross receipts.
• Formula:Taxable Income = Net Profit as per Profit & Loss Account
• Steps Involved:

1. Maintain detailed books of accounts, including income and expenses related to freelancing activities.
2. Prepare a Profit & Loss Account to calculate net profit after deducting allowable business expenses such as office rent, equipment costs, travel expenses, and professional fees.

• Ensure compliance with accounting standards and taxation regulations.
• If the net profit is less than 50% of gross receipts, this method may result in a lower taxable income compared to the presumptive tax calculation.
• Considerations:

Choose the method that best suits your business situation and helps minimize tax liability.

Keep accurate records of income and expenses to substantiate tax calculations and claims in case of tax audits or inquiries.

The process of filing an income tax return for freelancers might seem a bit complex, but it becomes easier as you break the whole thing down. Here’s the step by step process to go about it

1. Calculate the gross income for the financial year from 1st April to 31st March. (This would be the total payments received from clients). You can also just download yearly account statement as an Excel file to make the calculations easier.
2. Mark your freelance business expenses to request a tax deduction
3. Select the appropriate form.

Tax rates and annual income slabs for filing ITR

The income tax taxation slabs apply to both salaried employees and freelancer payments. Income up to INR 2.5 lakhs is not taxed. Income between 2.5 lakhs and 5 lakhs has a 10% tax rate, 5 to 10 lakhs have 20%, and income above 10 lakhs has 30%. This is for the old tax regime.

The following shows tax rates that apply for freelancers on the new tax regime: 

How much tax is applied to freelancers in India?

The average freelancer’s income in India can vary a lot depending on their expertise and industry. This can in turn affect the amount of tax applied to a freelancer. The amount of income you earn plays a key role when calculating taxable income.

Freelancers can calculate income tax on a presumptive basis if they receive less than 50 lakhs in Gross Receipts. In this case, the tax amount becomes equal to 50% of the total Gross Receipt.

If Gross Receipts exceed 50 lakhs, a freelancer may maintain a book of accounts.

In case, the net profit is less than half of their Gross Receipts, the difference between Gross Receipts and business expenses will represent the taxable amount.

The exact tax percentage will depend on the tax slab your taxable income falls in.

For instance, if you made 20 lakhs in a year, then your taxable income will be 10 lakhs (50% of the total Gross receipt). Therefore you will have to pay 15% tax on your taxable income, which is 10 lakhs.

What are the different tax deductions that Indian freelancers can use?

Certainly! Here are some deductions that Indian freelancers can utilize:

• Section 80C: Allows a deduction of up to INR 1.5 lakhs on investments in schemes like ELSS, ULIPs, FDs, and payments such as tuition fees.
• Section 80CCC: Offers tax benefits on contributions to pension plans within the overall limit of INR 1.5 lakhs.
• Section 80CCD: Provides deductions for investments in Central Government Pension Schemes.
• Section 80CCF: Exempts investments in long-term infrastructure bonds up to Rs 20,000 from tax.
• Section 80CCG: Grants deductions of up to INR 25,000 for investments in the government’s Equity Savings Scheme.
• Section 80D: Allows deductions for health insurance premium payments.
• Section 80DD: Provides exemptions for expenses related to treatment of normal or severe disabilities, up to INR 1.25 lakhs.
• Section 80G: Grants a 100% deduction on donations made to charitable trusts and relief funds.
• Section 80E: Offers deductions on interest paid on education loans.
• Section 80EE: Provides tax benefits on interest payments made towards residential loans, up to INR 50,000.

These deductions help freelancers reduce their taxable income, thereby lowering their overall tax liability. It’s important for freelancers to keep track of their expenses and investments to take full advantage of these provisions under the Indian Income Tax Act.

Advance Tax payable by a freelancer

If the total tax liability during a financial year exceeds Rs.10,000, the taxpayer is required to pay taxes every quarter. This is called advance tax.

How to calculate advance tax?

• Add up all your receipts and determine your total income.
• Subtract expenses directly related to your work.
• Add income from other sources, say a house property or savings account.
• Find out the tax slab you belong to and calculate your tax due.
• Remember to deduct TDS
• If the tax due exceeds Rs.10,000, you are required to pay advance tax by the following due dates.

The due date for Advance Tax

Penalties for non-payment of advance tax

Penalties for non-payment of advance tax in India can lead to interest charges under Section 234B and Section 234C of the Income Tax Act. These provisions are crucial for taxpayers to understand in order to avoid financial repercussions:

Section 234B: This section applies when a taxpayer has not paid advance tax, despite their total tax liability for the year being Rs. 10,000 or more. If advance tax is not paid, a penal interest is levied under this section.

Section 234C: This section deals with the computation of interest if the taxpayer fails to pay advance tax installments on time. It mandates that taxpayers should pay at least:

• 15% by 15th June
• 45% by 15th September
• 75% by 15th December
• 100% by 15th March of the financial year.

If these installments are not paid on time, interest under Section 234C is applicable.

TDS for Freelancers

Freelancers may receive payments where tax is deducted at source by the client or they may themselves need to deduct TDS when making payments to others.

• Income Received with TDS Deducted: Freelancers often receive payments where the client deducts TDS before releasing funds. This TDS deducted by the client is deposited with the government on behalf of the freelancer.
• Deducting TDS for Payments Made: Freelancers are also required to deduct TDS when making payments to professionals if the amount exceeds Rs. 30,000 per transaction or in aggregate during a financial year. The TDS rate is typically 10% on such payments.
• Threshold and Audit Requirements: TDS obligations for freelancers arise if their gross receipts exceed Rs. 50 lakhs in a financial year and they have undergone a tax audit in the previous year. If these conditions are not met, freelancers are not required to deduct TDS on payments made.
• Filing TDS Returns: If freelancers deduct TDS on payments they make, they are required to file TDS returns periodically (typically quarterly) with the Income Tax Department. These returns detail the TDS deducted and deposited.

Conclusion

Freelancers face unique challenges and opportunities when it comes to managing income and deductions. Maximizing income while minimizing taxable liability requires careful planning and documentation. By keeping detailed records, leveraging deductions such as home office expenses, equipment costs, and professional development, freelancers can optimize their tax situation and retain more of their earnings. It’s also essential to stay informed about tax regulations and seek professional advice when needed to ensure compliance and financial efficiency. Ultimately, freelancers who proactively manage their income and deductions can achieve greater financial stability and success in their independent careers.