DaveWentzel.com            All Things Data

March 2011

Some Tax Basics For IT Consultants

Previous Posts
Independent Consulting - the setup

After I decided that I wanted to be a freelance IT consultant I needed to determine what type of entity to setup.  Before doing that it's important to understand some tax basics that most career W-2 employees probably do not know.  As with all of these posts, I am neither a tax attorney nor accountant, please seek professional advice before attempting any of this on your own.  

Independent Consulting - the setup

For a few months now I've been contemplating quitting my day job to be an independent database consultant.  I finally took the plunge a few months ago, landing a large client doing some advanced data architecture work.  So far I'm very happy.  In fact it looks like I may be landing some additional contracts, including one with a former employer.  What I found most fascinating is the process of setting myself up as an independent entity.  I was given the option of working W2 for an outsourcer, 1099, or corp-to-corp.  I was given this same opportunity a decade ago and went the safe and simple W2 route.  I had to make the decision this time quickly and I knew from collegues that C2C was the most lucrative, if you want to be a little more proactive in your finances.  I chose the C2C route this time and am learning the intricacies of how you have to set yourself up to maximize your income in this arrangement.  Corp-to-Corp is by far the most complicated arrangement but you should be able to defer tax on a larger portion of your income. These notes are mostly for me to remember how I have things set up, but maybe someone else can use them.  In no way am I advocating that this is the proper setup for anyone else.  This is not tax or legal advice.  

In these few blog posts I'm not going to cover marketing, the benefits of hanging out your own shingle, how to collect payment, etc.  I'm solely going to focus on the tax ramifications of being an independent consultant.  Why?  It seemed very confusing to me while I read various web pages, books, magazine articles, etc, until I realized there are a few basics to understand and each reference I used assumed a certain setup that may or may not be applicable.  Once you have the basics you can dive into the complex topics without confusion.  


I'm not a tax-expert, lawyer, or anything like that so if you use my notes as a guide to set yourself up similarly, you're crazy.  Do your own research and consult with experts.  Since I have no desire to hire additional employees (other than my wife and kids, discussed later), I'm just a simple freelancer, my situation seemed to be very simple.  It was important to my client that they only sign deals with an "entity" to ensure that later I'm not reclassified as an employee.  The easiest thing to do is setup an LLC (limited liability company).   Your clients do not need to file a 1099 if you are incorporated (or have an LLC) and your client contracts with the corporation and not you personally.  Make sure your client knows that this is in his best interest since the IRS flags companies that file "excessive" 1099s as trying to misclassify employees as independent contractors.  

First, it's helpful to understand some tax basics.  Without a decent grounding of tax issues you won't fully understand if an LLC, S Corp, or "LLC taxed as an S Corp" is the right choice for you.  To keep you from dying of anticipation the best entity for an independent IT consultant seems to be an LLC taxed as an S Corp.  

Other Posts in this Series

nodetitle...covers a few of the methods you can use to organize your business.  

Next Post...Some Tax Basics...handles some tax terms you probably were not aware of if you have always been a W-2 employee.

Tax Procedures...covers how taxing works mechanically for the self-employed organized as an S Corp

Business Expenses...covers various business expenses an independent IT consultant can expect.  

Home Office Deduction...don't fear it, it is your friend when you fully understand it.  

Health Insurance Premiums...how to handle these effectively as an S Corp

Life Insurance Premiums...how to handle these most effectively as a business owner.  

Hiring Your Family...if you pay your kids an allowance here is an interesting method to save some tax dollars in the process

SIMPLE IRAs...and how they can really help you maximize your tax situation.  

Independent Consulting Summary...summarizes everything I have learned so far.