If you've been doing a some moonlighting as a consultant, you might be a little bit surprised to get one or more IRS forms 1099-NEC in the mail come January. (Before 2021, Form 1099-MISC was used.) If you thought you weren't going to have to pay taxes on that "extra" income, think again.
The IRS defines "gross income" as "all income from whatever source derived." Included in gross income is compensation for services, including fees and commissions. If a business pays you $600.00 or more in a year for your consulting fees, they have to report it to the IRS on form 1099-NEC. You'll receive a copy of the 1099-NEC too, as will your state tax department. Don't throw it away; you'll need to report that income on your return.
Because this is likely your first time filing a tax return that includes your income from self employment, you'll need to get a Schedule C and Schedule SE to file with your 1040. You will use the Schedule C to report all the gross receipts from your side business. You need to report all of the income you received from your consulting, not just those amounts for which you received a 1099-NEC. Even though a business needs to pay you a minimum of $600 before they're required to submit a 1099-NEC, you're required to report all the income you receive from all sources, even if it's less than $600.
You'll also report your deductible business expenses on the Schedule C. Examples of deductible business expenses include business mileage, advertising, insurance, legal and professional services, equipment, office expenses, and office rent or lease expenses. You'll subtract your expenses from your gross receipts and the net profit or net loss must be reported on your Form 1040. If you had a net profit, that amount will also be shown on Schedule SE. You use Schedule SE to figure the amount of self-employment tax that you owe on your business income. Self-employment tax consists of a 12.4% Social Security tax up to an annual income ceiling ($147,000 for 2022) and a 2.9% Medicare tax on all your income.
If the idea of reporting your side income and paying tax on it has come as a bit of a surprise to you, you might also be surprised to find out about some of the other legal requirements imposed on your enterprise. You'll probably need to get a local business license, a state tax identification number, and report your income on your state tax return as well. If all of this is news to you, check out the related article called "Legal Issues to Consider When Starting Your Business" for more information.
If you aren't already doing so, you should make sure your bookkeeping is in order too. Filing a Schedule C can more than double the likelihood that the IRS will audit you. Your best defense is keeping good records of your income and expenses.