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As per the Income Tax Act, an income from any profession that involves work, which requires you to use a skill, which is an intellectual skill or is a manual skill, then such income will be taxable under the head 'Profits and Gains of Business and Profession'.
Your income is the sum of all your receipts from carrying on this work for your clients. Your clients may be based in India or outside of India and they make the payments towards the work you do for them. You can use your bank account statements to add up all the receipts that have been credited to your account by clients as payment towards work done.
Freelancers can deduct expenses they incurred to do the job from their income. This could be anything from office furniture to cab fares to visit clients. These expenses must be directly related to the job you are doing.
If you take a property on rent for carrying on your work, rent paid by you is allowed to be deducted.
If you have agreed to pay for repairs to the rented property then these repair costs can be deducted. If you own the business property and carry out repairs those are also allowed to be deducted. Any repairs to your laptop, printer, equipment are also allowed to be deducted.
When you purchase a capital asset, the benefit of such an asset is usually expected to last more than a year, such assets are capitalized and not charged to expenses when they are bought. Every year a small portion of its cost is expensed and is allowed to be reduced from your income. This expense which is charged every year is called depreciation.
For example, when you buy a laptop for Rs 60,000 to carry on your freelancing work - the Rs 60,000 will be considered your asset and assuming a straight line depreciation of 33.33% each year (depreciation % and methods are laid out in the Act for different type of assets, hypothetical rate here for ease of understanding), every year Rs 20,000 shall be charged as expenses. And in 3 years we would consider the asset to be fully depreciated. Note that, the type of assets, methods of depreciation and rates of depreciation to be charged as per the Income Tax Act are laid down by the Act itself and those shall be applied.
Expenses incurred to carry on your work such as printer, office supplies, your monthly telephone bills, internet bills or conveyance expenses.
The cost of travel to meet your clients within or outside of India is allowed as a deduction.
When you do client meetings, when you take your clients out for dinner or some other outing and money has been solely spent with the intention of getting new business or retaining existing business.
When expenses are incurred or asset on which is being claimed is used for both professional and personal purposes, only a reasonable amount of the expenses and depreciation is allowed as a deduction, not the full amount.
For example, your mobile phone is used for both business and personal calls, only a reasonable portion of your mobile bill attributable to your freelance work will be allowed to be deducted.
The following expenses are explicitly disallowed to be deducted from one's income as per the Income Tax Act:
All payments in excess of Rs.20,000 must be made either by an account payee cheque or a demand draft.
Keep a record of all your expenses and store all your expense receipts.
Case Study: Rohit, a freelance photographer, takes premises which is owned by his married sister for carrying out his freelancing work. Rent is an expense which is allowed to be deducted from the freelancing income of Rohit. Since the premises is owned by Rohit's sister he decides to divert some of his income to his sister by paying her higher than a reasonable market rent.
Rohit claimed the rent payment as a business expense and reduced his overall income. His sister, who has no other income, paid only a 10% tax on the rental income. The Assessing Officer may not allow a rent payment which is not in line with fair market value of the premises and where the recipient is a relative.
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How should freelancers account for their income — when it is due or when it is actually received?
There are two types of accounting methods -
|Accrual Basis of Accounting||Cash Basis of Accounting|
|Income is accounted or booked when the right to receive arises||Income is booked when it is actually received|
|Expenses are accounted or booked when the obligation to pay arises||Expenses are booked when they are actually paid|
|Tax liability arises when income is booked - tax may become payable when income may not have been received||Tax liability arises in the year income is received - so it makes you pay tax only when income is in your hands.|
|Approach can be followed for all heads of Income, compulsorily for Heads of Income of Salaries, House Property and Capital Gains.||Only allowed for Profits and Gains from Business and Profession and Income from Other Sources.|
|For e.g., you raise an invoice on your client on 2-Feb but receive the payment on 4-Apr, revenue would be booked in your accounts basis when invoice is raised to the client and the fact that milestones are completed as required.||In this same example, revenue would be accounted for only on 4th April (which will be the tax year next to the year in which invoice was raised or work got completed) when payment is received.|
|For Example - Your mobile bill dated 15th February to 15th March has been received. This bill will be captured as an expense in the month of March for accounting purposes - though you may or may not pay this until 31st March (you may actually pay in the next tax year). Note that on an estimated basis your mobile cost for remaining 15 days of March may also be accrued using a reasonable basis when your books of accounts are closed on 31st March for tax purposes.||For Example - Your mobile bill dated 15th February to 15th March has been received and this bill will be booked as an expense in the month of March when you pay it before the 31st March (therefore gets booked in the same tax year). If you decide to pay it in April it will get booked as an expense in the next tax year (though the expense or mobile usage pertains to the previous tax year).|
Note that the accounting method you choose will have to be followed for all clients, all revenues as well all expenses.
It may appear that by using cash basis of accounting you tax liability will be reduced. However, the reality is - it may only postpone your tax outgo, you will not be able to achieve a tax reduction as such.
Once you choose a method of accounting you are expected to regularly comply with that method. You are not allowed to change the method of accounting often - if your intention is to save taxes or avoid taxes. Usually, it seems more logical to follow the Accrual Basis - unless your receipts are very irregular or are very uncertain.
The Income Tax Act has specified the books of accounts that are required to be maintained for the purpose of Income Tax. These have been prescribed under section 44AA and Rule 6F.Click here to read more about bookkeeping and audit requirements→
Net Taxable Income = Gross Taxable Income - Deductions
One can reduce their tax outgo by making full use of deductions under Section 80. Section 80C of the Income Tax Act offers tax relief on certain expenses and encourages taxpayers to save for the future (by giving deductions on investments in financial products).
You can reduce your taxable income by up to Rs.1,50,000 by claiming deduction for the amount actually invested/spent under this section.
If you are less than 60 years of age and your Net Taxable Income is more than Rs. 2,50,000, you are liable to pay tax on your income. Here is how tax will be calculated on your income:
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.
|On or before 15th September||Up to 30% advance tax payable|
|On or before 15th December||Up to 60% advance tax payable|
|On or before 15th March||Up to 100% advance tax payable|
Need help from an expert to calculate and pay your advance tax? Reach out to us email@example.com
Freelancers must file income tax returns on ITR-4.
There are two ways to do it. You can pay online through the I-T Department's website. Go here to see a screenshot guide to filing tax dues on the government website.
You can also fill out a paper challan and deposit tax by physically visiting your bank.
To avoid Interest Penalty under Section 234B and 234C -
Section 234B applies when Advance Tax has not been paid and since Advance Tax is payable as per dates set out by the IT Department, 234C is applicable when interest is not paid according to these due dates. You can read in detail about 234B and 234C here.
VAT is only applicable when there are physical goods being sold.
When you earn an Income from a 'Service', service tax is usually required to be paid by you — the provider of the service (you) have to recover this tax from the receiver of such services Add it to the total value of your service and the client has to make the payment inclusive of this tax.
Service tax rate upto 31st May 2015 is 12.36%. Let's say your total billing to your client is Rs 75,000. Service tax on it shall be Rs 9270. You invoice your client Rs 84270 and Rs 9270 will be service tax collected from the client and which has to be deposited to the government.
Service Tax rate for financial year 2015-16 is 14% effective 1st June 2015.
If the total revenue from freelancing work is Rs.10,00,000 or less, service tax rules do not apply. However, once you cross Rs. 9,00,000 in revenue it is mandatory to apply for service tax registration. Service tax do not apply when services are exported.
If you have any questions related to service tax applicability to your income or need to get yourself registered, let us know at firstname.lastname@example.org
Service tax payments can be done online. Doing these payments online is mandatory if your payments exceed Rs. 11 lakh in a year. Service tax has to be deposited with the government either quarterly or monthly based on whether you are an individual/company/partnership. Interest may also become payable for any delays in depositing service tax with the government.
Service Tax Returns have to be filed twice a year in Form ST-3 or ST-3A as applicable. Once you obtain a Service Tax Registration number, return filing is compulsory for you.
ClearTax can help you file your service tax return. Write to us at email@example.com
Add Gross Value of Invoices
Service tax is chargeable on gross receivable of your freelancing work. You can exclude values which are considered as exports since service tax is exempt on export of services. Aggregate the total invoices raised to your clients. These could be totals of invoices raised by you or amounts agreed to be paid to you. In case your freelancing services are not backed by an invoice or an agreement, you may find amounts credited to your bank account. These invoices should be gross values, and not net of any expenses.
Important to note that the invoices are aggregated whether or not payment has been received against these invoices.
Add up values from all services
The nature of freelancing work or services provided by you may be different, you may be coding for one client or providing technical advice to another client or testing software for others. However the aggregate value of all such services have to be considered (and not for each type of service).
Only your receipts or value of services from freelancing work is considered for this purpose.