If you are new to life as a freelancer, consultant, or entrepreneur, you may not have considered the tax burden you’re about to face. In many countries your employer will take the taxes you owe to your government directly from your paycheck. But as an independent worker, you must do this yourself:
1. Income Tax
Income taxes are based on your annual income from work. Usually the rate of tax you pay depends on how much you earn—your tax bracket. If you’re from a country like the U.S. or Canada, you’re used to filing your taxes each year to take advantage of the credits and deductions you may be owed. But, as an independent worker, you don’t just file your tax return, you pay taxes based on your income.
It’s important to set aside some of your income, or you will have a very nasty shock in April. In other countries with simpler systems, like the United Kingdom, only some people are required to report on their taxes (that is, the average employee doesn’t bother). But if you’re now an independent contractor, you have to report and pay income tax on your own, so check with your government tax agency to learn about your obligations.
2. Business Tax and Sales Tax
If you are running a business, you may have to pay a business tax in addition to your income tax. If you are selling a product or service you will likely have to charge and remit a sales tax such as VAT or GST to the government of the jurdistion in which you run your business (check with all levels of government in your jurisdiction).
Sales taxes are tricky because they vary depending on the location of your business and the location of your client or customer. But remember that you can usually claim the sales tax you spend on goods and services as an expense against your own business or sales tax liability.
3. Outside the Law
There are some digital nomads who operate between jurisdictions—they don’t report their income in their home country and they don’t officially work in the countries where they roam. Some remote entrepreneurs purposely set up their businesses in countries with tax advantages.
Some countries require their citizens to report on their income even if they don’t owe taxes and other countries only require taxes from current residents. Every jurisdiction is different, and freelancers, entrepreneurs, and even remote employees are responsible for learning the rules. Governments don’t take “I didn’t know” as an excuse when it comes to collecting taxes!
If you are an American citizen you must file your tax return EVERY YEAR, no matter where you live, work, or pay income tax. You must also file annual Report of Foreign Bank and Financial Accounts (FBAR) forms for every foreign bank account or investment you hold if your combined balance in foreign accounts equal $10,000 at any point in the year. This is also true for non-citizen legal residents of the United States—however, if you are living outside of the U.S. for an extended period, you are likely to lose your residency status (which will make your digital nomad tax obligations irrelevant!).
4. Professional Help
If your tax situation is complicated, it makes good sense to hire some professional help. At the very least, you may need to invest in accounting software and tax preparation software. But you may also benefit from the services of an accountant or tax preparer in your home country.
Be sure you hire someone who understands your situation—your type of work, international implications, sales tax obligations, and the rules about claiming expenses. It usually costs between $100 and $300 to hire a tax preparer in North America, but business accountants and international specialists will likely cost more.
Rates in other countries will vary based on the complexity of the tax system. (Note that U.S. tax preparation for Americans living abroad who earn above a certain threshold or with certain types of foreign investments can be very expensive—be sure to take advice before opening bank accounts or making investments in foreign countries.)
- Do some research on your status as a tax payer
- Set aside some income or revenue to cover your tax obligations
- Leave room in your budget to pay for expert advice
You don’t want the taxman on your back—that’s how they got Al Capone!