taxesI have a confession to make.  Earning extra income is not all rainbows and roses.  It is not all sunny every time you walk outside.  Earning extra income has a dark side.  One that many don’t speak of that often.  Why you ask?  It involves a dirty word. One that many don’t like to speak of, and when they do, they cringe.  You know the word very well, and so does every working person around.  TAXES! That’s right, the good old tax man is calling your name.  The tax man is definitely calling my name, and I don’t want to answer.  I speak a lot about making more money, from how to earn extra income to how important it is.  Earning more can really change your life, but it also takes a lot of work and sacrifice.  What I don’t talk about a lot are taxes.  There is a reason for this and it basically boils down to my feelings about being overtaxed.  I don’t mind taxes, but I do mind getting taxed and then taxed again.

Taxes Are Certain

We have all heard the quote from Benjamin Franklin saying:

In this world nothing can be said to be certain, except death and taxes.

I wish it wasn’t true, but it seems to be.  What Benjamin Franklin doesn’t talk about is how we are taxed when we earn extra income.  We all expect to be taxed when we have a job.  It is part of every official job you have.  You will fill out paperwork, which is then sent to the government.  Taxes are taken out with each paycheck and we move on.  We know they are there and we don’t fight them.

Side Income Taxes

There is a common misconception that if you earn money on the side, you don’t have to report it.  This is certainly not true.  Whenever you earn money on the side or money at all, you are supposed to report it to the government.  My blogging friend, Michelle, wrote a good post about blogging and taxes.  While it can be difficult for the government to track what everyone makes, they have some ways.  You might see people getting around this by paying cash.  That is very hard to track.

I always tell others, both here on Debt Roundup and in my personal life, that earning extra income is a great thing. It opens up possibilities and can give you more financial freedom.  It can also help you get out of debt and stabilize yourself financially. It helped me do both of those things.  While I do tell people to work hard to find extra income opportunities, I don’t tell them much about the tax ramifications.  This has been an oversight on my part.  I should be transparent with you and everyone else that I tell with regards to making more money.

You will have to pay taxes on all extra income you earn.  Unless you can  hide it with cash transactions, which I don’t recommend, you will need to report it.  If you freelance on the side, you probably will get a 1099 from the company paying you.  If you get a 1099 form from anyone, then you better report that income.  One copy of the 1099 goes to you and guess where the other one goes to?  Yep, straight to the IRS!  Even if you don’t get 1099 forms for your income, you still need to report it on your 1040.  It is not hard to do, but it will cause you to either lessen your anticipated refund or will cause you to owe the government.

Some people think that if you don’t earn $600 in the year, then you don’t need to report it.  I would just do it and get it over with.  No need to make life harder if you do have an audit.  You should be tracking all of your extra earnings in some way. I use a very easy spreadsheet with fancy pivot tables for reporting.  There are many other great ways to do so, especially with services that link up to your Paypal and checking accounts.  One of the easiest ways to keep track is to have a separate bank account.  I have a free business checking account to keep myself straight.

The fact is that any income you earn on the side is not taxed when you earn it.  You are required to pay those taxes at some point, so when you file your taxes, you will need to pay up then.  You don’t get to keep it all, but that depends on what your tax bracket is. I can’t help you there, so look at your last years tax return to get a better picture.

Making Estimated Tax Payments

Here is another dark side of making extra money and they come in the form of estimated tax payments.  These little payments are due quarterly and they go straight to the IRS.  If you think you will owe more than $1000 in taxes when it is tax time, then you will need to pay estimated taxes.  There are a few ways to come up with how much you will owe, but if you don’t pay any, you will probably get a penalty.

Trust me, I made this mistake before.  When I had my business, I didn’t pay estimated taxes the first year I made good money.  Not only did I have a huge tax bill, but I also had to pay estimated taxes.  This past year I didn’t pay estimated taxes because I had more than enough withheld from my regular job.  I am changing that this year and I will be making estimated quarterly tax payments to the tax man.  There is nothing fun about it, but it should lessen the burden of a big tax bill come April!

If you want to know more about estimated taxes, then check out the information from the IRS.  You will probably notice that estimated taxes are usually reserved for small businesses and the self-employed, but don’t let that fool you.  If you earn enough from side income that will cause you to owe a good chunk of change, then you should think about estimated tax payments.

Tax Preparation

One thing that I don’t have an issue with is doing taxes. I understand the process, but I get a little help from a friend. That friend is TurboTax.  I have been using that software ever since I have been paying taxes.  It is easy to use and makes paying regular and extra income taxes easy. It is also great for small businesses and the like.  When you are preparing taxes, you need to use whatever that makes you feel comfortable.  Many people love TurboTax, but there is also H&R Block, along with TaxAct, and many others.  You can also take your stuff to a CPA or tax attorney.  There are also way too many tax preparation offices around these days. I don’t use them because I had a friend work at one that just used software similar to TurboTax and H&R Block.   I am not going to pay more for the same effort.

I will advise everyone that if you don’t understand taxes, then you need to seek some assistance.  Don’t let you not understanding penalize you when it comes to tax time.  If you make extra income, then you will need to make sure you do it right and pay your taxes.  I have seen too many get so excited when they earn extra money, but then spend it all. All extra income that I receive goes into my savings account.  I then make sure that I keep 40% of it until tax time is over.

Taxes are just a part of life, but they are also a part of earning extra income.  As I said, don’t forget to think about taxes when you are earning more money.  The more you earn, the more you are taxed, unless you are rich ;), which I am not.  Just by understanding that your extra earnings will be taxed can be helpful in planning out how you will deal with the money.  There is nothing worse than a big surprise at tax time, and I am not talking about a large refund.

What do you think about taxes on extra income?  Do you save a portion of your extra earnings just for taxes?

Image via DonkeyHotey

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  1. I shuddered three times while reading this Grayson! Nothing worse than watching the taxman take his portion of your income. At the same time – it’s sort of like that old saying “Don’t complain about having to wash dishes, for dirty dishes means that you had something to eat.” Last year I paid the most amount of taxes I ever have….because I earned more than I ever had. Great reminder to keep a portion of your side income for tax time. I made that mistake one year – ouch!

    1. I agree with your statement Jack. While I am happy that I am making more, it is never a good feeling to watch a good portion of it go away. This was more of a reminder to those that don’t think about taxes much.

  2. Grayson, I have a question for you re: estimated taxes. You said you use Turbo Tax – do you know if the “home & business” edition of the software will help you pay estimated taxes throughout the year? Or do you have to get a separate version to handle the quarterly stuff?

    Thanks for a great, informative post 🙂

    1. That is the version that I use. There is a section in there that will break down how much you should pay in estimated taxes, then when you file your taxes, it will print out the payment coupons. You can just pay online though at the IRS. It gives you four options of how you want to calculate the estimated payments.

  3. Last year was my first time paying taxes as a freelancer and it was eye-opening. I didn’t set aside any money to be used specifically for taxes, but I pretty much knew what to expect this year. I’m sure some people are tempted to just not report extra income, but I’d much rather be honest and do the right thing.

    1. It is quite eye opening, but if you plan for it, it doesn’t sting as much. It still stings having to pay during tax time, but at least you are prepared for it.

  4. Every time we get paid for non-SE extra income, we set aside the percentage that corresponds to our federal and state marginal tax brackets into a separate Taxes savings account. For our SE income, we keep the entire payment separate and don’t bring it into our personal finances until we pay our taxes at the start of the year. I’d rather be super structured than be hit with a tax bill we failed to prepare for!

    1. That is the way to do it. You know the money is there, so when you have to pay, you don’t have to find where to get the money from.

  5. Ah yes, there definitely is a dark side to making extra side money – the IRS wants their share! I think it’s always initially scary for people who start earning money outside of their regular job and have to figure out their estimated taxes. We get so use to our employer taking care of it for us! But once you establish a routine and system, it’s not so bad. I can’t say it’s fun because well, I’d rather keep the money but at least I can make less of hassle when it comes time to pay my taxes.

    1. You are correct. We get used to the employer taking out the money, but that option doesn’t exist when you make the money outside of your employer. You are responsible to reporting that income.

  6. It’s a terrible thing but there’s no avoiding Taxes. I was talking with a friend about paying taxes because she has never had to pay before, but now both her and her husband are earning good incomes. I told her she needed to be prepared for possibly having to pay and she was shocked! I also do my own taxes with Turbo Tax each year. I like that I can easily access my previous years taxes on their site, though I also save a copy.

  7. Just reading the word taxes makes me cringe and I can go on forever about “fairness,” but I won’t. A tax “savings” account is necessary for side income money. Like any major “purchase” it is so much easier to prepare for it throughout the year rather than have a large hit in April.

  8. Very informative post, Grayson! We just got back from doing our taxes with our CPA and it is still a hard thing to think about. We will keep tabs on all this as we get more into blogging income. As with most people, we’re happy to pay our fair share of taxes – I just wish it wasn’t so gosh darn complicated!

    1. I am always willing to pay my fair share, but I think it has become a little unfair. A majority of my income goes right out the door before it even hits my wallet. It is irritating, but unless I create some tax shelters, that is how it is going to be.

  9. You state, “I don’t mind taxes, but I do mind getting taxed and then taxed again.” I assume you are talking about some sort of double taxation. I didn’t see an explanation in your article, but would be interested in how you might be getting double taxed. Many people complain that dividends and capital gains are doubly taxed, because the corporation that generated the dividends/cap gains was taxed, and then shareholders are also taxed on these same dividends/cap gains. I don’t see it as double taxation, because it is taxation of two different entities. Plus, the Supreme Court has already confirmed that this is legal. Another could be that you pay income tax on your earnings, and then pay sales tax when you spend those taxed earnings. The Supreme Court has also confirmed that this is legal.

    1. Hey Bryce, I wasn’t really referring to double taxation, though I am sure that many could make an impelling argument for it. Though the Supreme court says it is legal, doesn’t make it fair does it?

      I am referring how many taxes there are for everything. For example, if you own stocks and you sell, you are taxed at your regular rate for the income. You are then taxed at a short or long term capital gain. This means that the money you could have had has been reduced by over half before you even get it. I don’t think you or anyone else could disagree that our tax code is filled with unwanted taxation. I am never going to argue that one shouldn’t pay taxes, but I will argue that there are too many times we get taxed.

  10. The dark side isn’t just taxes – it’s also how much taxes! The “self employment” tax is a killer. Having to add on 15.3% is rough (even though only part of that is incremental to regular payroll taxes). So, unless you are making bank (over the cut off to where social security taxes no longer apply), then this can really hurt. If you are located in a place like say California and in the 25% federal tax bracket, the tax rate on SE income would be 49.6% when including state income taxes!

    1. You are correct. They are all taxes. I am over 50% with my taxes, so I know what you are talking about. Working hard and then watching 50% of your money go out just like that is harsh.

  11. I made that same mistake about not paying quarterly the first year I owned my optometry practice and almost had a heart attack in April because of how much I had to pay. We had a really good year in 2013 and paid in a ton of taxes, but I think we might owe more once it’s all said and done. I don’t enjoy it at all, but I guess it’s better to pay taxes on what you made than not have made anything. This year, I’m really excited to have a solo 401k so I can put away more income than last year and hopefully not pay as much tax.

    1. I made the same mistake when I first ran my e-commerce business. That was not a good April! You are right when you say that it is better to pay taxes than to not make anything at all!

  12. Ugh. There isn’t much worse than taxes. My wife was asking why I was reporting the piddly amount I made from selling a couple of things on ebay, and I just said I’d rather be safe than sorry, we’re we to get audited. Nothing worse than Uncle Sam finding out you earned more money than you said you did.

  13. I’m glad I don’t have to pay my taxes yet and that here in our country, the money you make online isn’t subjected to tax. Unless, you want to include it yourself.

  14. On the bright side, the Self employment taxes increase social security benefits. Possibly not by much for a primary breadwinner, but it could be substantial for a stay at home parent. The amount of “insurance” the first roughly $10,000 of social security taxable income for disability, survivor, and retirement is non trivial. Gotta keep a positive outlook :).

    1. That is a bright side, but I don’t really calculate social security benefits into my financial equation. I have no idea if it will be solvent by the time I am ready to retire. I am about making money and not depending on the social security as there are too many questions.

  15. Wow! This really freaks me out. Hadn’t really thought about this before ~ any side income made from blogging. I think I’ll just continue to blog for laughs and (my) stress relief. Those are benefits the tax man can’t take from me. Oh, that, and when I learn some new investment tips and tricks and other savvy information for my toolbox. Tax man can’t tax my brain ~ even though some posts might!

    1. Don’t let it freak you out. If you make any extra money, then make sure you are prepared to pay taxes on it. I just put away a certain percentage of my money to be ready for taxes.

  16. While taxes may be certain, it is rumored that Franklin mentioned that “Beer is proof that God loves us and wants us to be happy”… So once you get those taxes done, treat yourself to a cold one : )