Moonlighting, or taking on additional work outside your primary job, is becoming increasingly popular for a variety of reasons, such as rising costs, ambitious future plans, or simply because it’s become rather easy to make a good extra payday on an in-demand skillset thanks to various talent marketplaces. 

Whether you're freelancing, consulting, or pursuing a side hustle, understanding the tax implications is crucial, as is knowing how to keep more of what you’re earning.  

This guide is designed to help you navigate the complexities that come with chasing that extra paycheck. 

Moonlighting 101: The Basics

Whether you're a software engineer considering freelance gigs, a product manager dabbling in consulting, or a marketing executive exploring side hustles, the tax ramifications are generally the same. 

Freelancing on popular marketplaces like Upwork, consulting, starting a side business, or even working a part-time job can have several benefits in addition to the additional income: 

1. Moonlighting can help you diversify your talents and acquire new skills, expand your professional network, and increase your market value.
2. You can also pursue interests and passions that your primary job might not fulfill.

In the eyes of the IRS, there's nothing wrong with taking on additional work outside of your primary job– more income for you means more income for them. 

As such, this income is typically categorized as self-employment income, which has distinct tax implications compared to your primary employment income.

There are a few new forms worth cozying up with:

1. Form 1099-NEC: If you earn over $600 from a single client, they will likely issue you a Form 1099-NEC, which reports non-employee compensation. If you have multiple clients paying over $600, you’ll have multiple 1099-NECs. However, keep in mind you may have to nudge your client to issue it to you as it’s an extra task that is easily forgotten. 
2. Form W-9: This form is your way of giving clients the information they need to send you a 1099. It includes your name, address, and taxpayer identification number. It’s your ticket to getting paid and keeping the IRS happy. Hand this form to each new client at the start of your working relationship so they have all your details on file."
3.  Schedule C (Form 1040): You will report your moonlighting income and expenses on Schedule C (Form 1040), Profit or Loss from Business.

The real stinger is that self-employment income comes with self-employment tax. Unlike W-2 income, which has Social Security and Medicare taxes withheld by your employer, moonlighting income requires you to pay an additional 15.3% self-employment tax on your net earnings, which covers Social Security and Medicare contributions. 

Wrapping this section up, your non-payroll work comes with two, potentially up to four different taxes:

1. Federal tax is taxed at your marginal tax rate. 
2. Self-employment tax of 15.3% in 2024. 
3. State tax (if applicable).
4. The AMT tax in specific situations is common for certain high earners. Extra income from side gigs or freelance work can increase your overall income, which could push you into the income thresholds where AMT becomes a concern. For the scope of this article, don’t stress it– check out our guide on AMT to learn more. 

Consideration #1: Planning Ahead for Estimated Taxes

Since taxes aren't withheld from your moonlighting income as they would be on a W-2 paycheck, you must plan to pay estimated taxes quarterly. Failure to do so can result in penalties and interest charges. 

Estimated tax payments are due:

1.  April 15th,
2. June 15th,
3. September 15th,
4. January 15th of the following year.

The IRS requires you to pay estimated taxes if you expect to owe at least $1,000 in taxes after subtracting your withholding and refundable credits.

Shorthand estimation: Let’s do a quick hypothetical calculation sans a lengthy IRS form. 

Suppose you made an extra $30,000 this year moonlighting. Considering both federal income tax and self-employment tax, 40% is a fair estimate to set aside for taxes or high-earners. 

You might already be sitting in the 24% to 37% federal tax bracket because of your salaried income. A slight saving grace is that self-employment tax is 15.3% on net earnings, not on all income due to deductions, which we’ll get into later.  

40% of your $30,000 moonlighting earnings is $12,000, or about $3,000, paid quarterly. 

To accurately calculate your estimated payments, use Form 1040-ES to estimate your quarterly tax payments. You'll need to consider your expected adjusted gross income, taxable income, taxes, deductions, and credits.

The Safe Harbor Rule essentially says that in order to avoid penalties, make sure that your total tax payments (withholding and estimated taxes) equal at least 90% of your current year's tax liability or 100% of your previous year's tax liability (110% if your adjusted gross income is over $150,000).

1. Calculate Your Estimated Tax

Use Form 1040-ES to calculate your estimated taxes. The form comes with a worksheet to help you estimate your adjusted gross income, taxable income, taxes, deductions, and credits for the year.

You could also use the IRS Tax Withholding Estimator to approximate a value.

• List all sources of income, including wages, dividends, self-employment income, etc.
• Use last year's tax return as a guide if your financial situation hasn't changed significantly.
• Include all applicable deductions and credits you expect to claim.
• Apply the appropriate tax rates to your estimated taxable income.

2. Complete the Payment Voucher

Form 1040-ES includes four payment vouchers for each quarterly payment. 

Complete the payment voucher with your name, address, Social Security number, and the amount you're paying.

3. Pay Your Estimated Taxes

You have several options for making your quarterly estimated tax payments.

The fastest and easiest way to pay is through the IRS Direct Pay system. 

You can also use the Electronic Federal Tax Payment System (EFTPS) at EFTPS.gov.

To pay by phone, you can call EFTPS at 1-800-555-3453 to pay over the phone.

If you really need to or prefer it, you can mail your completed payment voucher with a check or money order made payable to "United States Treasury." Include your Social Security number and "2024 Form 1040-ES" on the check. Send the payment to the address listed in the Form 1040-ES instructions.

4. Record, Monitor, and Adjust Your Payments 

Keep a record of each payment, including the date, amount, and method of payment, to track your total estimated tax payments and reconcile them when you file your annual tax return.

If your income fluctuates during the year, you may need to adjust your estimated tax payments. 

Use the Form 1040-ES worksheet to recalculate your estimated tax and make sure you’re meeting your tax liability. 

5. File Your Annual Tax Return

When you file your annual tax return, include all your estimated tax payments on Form 1040, Line 26.  

This will be credited against your total tax liability for the year.

Consideration #2: Health Insurance and Benefits

Moonlighting can affect your eligibility for certain benefits, including health insurance. 

For example, if your primary employer offers health insurance, check whether moonlighting impacts your coverage. Some employers have policies regarding additional employment.

If you aren't eligible for employer-sponsored health insurance, you can deduct the cost of your health insurance premiums directly from your gross income, reducing your taxable income.

If you have a high-deductible health plan (HDHP), you can tap into the triple-tax advantage of  Health Savings Accounts (HSAs): tax-deductible contributions, tax-free growth, and tax-free withdrawals for qualified medical expenses.

I highly recommend reading our guide on HSAs if you’re interested.

Consideration #3: Legal and Compliance Considerations

Understanding and adhering to relevant laws and regulations regarding moonlighting is essential, specifically with your employment contracts. 

Some employers have strict policies against outside work, especially if it competes with their business or poses a conflict of interest.

It’s worth making sure that your moonlighting activities don't violate any non-compete agreements you may have signed with your primary employer. However, it’s worth noting that the Federal Trade Commission (FTC) issued a final rule banning noncompete clauses nationwide in April 2024– just be sure to consult a legal professional if you really want to feel in the clear. 

Further, be mindful of intellectual property (IP) considerations. If you develop new products or ideas while moonlighting, ensure that your primary employer doesn't have claims over your IP. 

Specifically, if you’re working on your business on your work computer (paid for by your employer) or even during work hours, you may enter some muddy legal waters when it comes to your IP. 

Lastly, depending on your side business, you may need specific licenses or permits and make sure you comply with all local, state, and federal regulations. 

Realistically, if you’re freelancing on the side or consulting, you’re more likely in the clear than, let’s say, a house demolition side hustle– but still, it’s worth checking any regulations about your specific niche. 

Consideration #4: Avoiding Burnout– Practical Tips to Balance Work and Taxes 

“Wow, I can make an extra $2,000 a week just hopping on a few consulting calls during lunch and on the drive home!”

Before we start doing napkin math until we see dollar signs, let’s talk about how to proactively prepare for the potential headaches that could come with moonlighting.

For starters, keep detailed records of all income and expenses related to your moonlighting activities, which will make tax filing and maximizing your deductions way easier than cramming in the month before taxes are due. 

Use a separate bank account and credit card for your side business to keep your finances organized and make it easier to track income and expenses. If you choose to register an LLC for your side business, avoid co-mingling personal and business funds. 

Regularly set aside a portion of your moonlighting income for taxes to avoid cash flow issues when it's time to make estimated tax payments.

Given the complexity of tax laws and the unique circumstances of moonlighting, it's wise to work with a financial planner who has specific experience with self-employment and can help you navigate the tax code, optimize deductions, and ensure compliance. Schedule a free financial analysis to explore your options and plan for potential moonlighting income scenarios. 

How to Moonlight Like a Professional

One of the benefits of moonlighting is the ability to deduct certain business expenses, which can significantly reduce your taxable income.

Setting up a Limited Liability Company (LLC) can give your side gig a professional edge, provide some liability protection, separate your personal and business finances, and make it easier to track expenses and income. 

However, for tax purposes, a single-member LLC (what you’ll likely set up on your solo venture) is treated the same as a sole proprietorship unless you elect to be taxed as a corporation. 

This means that, from the IRS's perspective, you report your business income and expenses on your personal tax return (Schedule C), and the process for claiming deductions is essentially the same as that of a sole proprietor without an LLC.

Common deductions include:

1. Home Office Deduction: If you use a portion of your home exclusively for your side business, you may qualify for a home office deduction. This can be calculated using either the simplified method (a flat $5 per square foot, up to 300 square feet) or the actual expenses method (a percentage of your home expenses, such as rent, utilities, and maintenance).
2. Equipment and Supplies: You can deduct the costs of equipment, software, and supplies used in your moonlighting activities.
3. Travel Expenses: If your side job requires travel, you can deduct transportation, lodging, and meal expenses.
4. Professional Services: Fees for legal, accounting, and consulting services related to your side business are deductible.
5. Marketing and Advertising: Costs associated with promoting your side hustle, such as website hosting, business cards, and online ads, are deductible.

While these deductions can lower your taxable income, it's important to be conservative and honest about what you claim. Overstating deductions can raise red flags with the IRS and lead to audits and penalties. 

And then again, you’ll have a choice between the standard deduction versus itemized deductions, such as the ones listed above. 

The standard deduction is a fixed amount that reduces the income you're taxed on. For 2024, the standard deduction is:

• $14,600 for single filers
• $29,200 for married couples filing jointly
• $21,900 for heads of household

Choosing between the standard deduction and itemizing depends on your total deductible expenses. If your business deductions, along with other itemizable expenses (like mortgage interest and charitable contributions), exceed the standard deduction, itemizing may be more beneficial.

Otherwise, the standard deduction might be the simpler and more advantageous choice.

Keep thorough records and receipts for all your expenses, and consider consulting a financial planner professional to ensure you're claiming everything correctly.

Case Study: Moonlighting in Action

Suppose Emily, a senior software engineer earning $250,000 annually, decides to start consulting on the side.

1. In her first year, she earns an additional $30,000 from consulting. Emily receives Form 1099-NEC from her clients and reports the $30,000 on Schedule C of her tax return.
2. Emily deducts $5,000 in business expenses, including a new laptop, software subscriptions, and travel expenses, reducing her net income to $25,000.
3. She calculates her self-employment tax, which amounts to $3,825 (15.3% of $25,000). Emily can deduct half of this amount ($1,912.50) from her gross income. The IRS provides a deduction for the employer-equivalent portion of the self-employment tax.
4. Emily calculates her estimated tax payments using Form 1040-ES and makes quarterly payments to avoid penalties. Since Emily's employer covers her health insurance, she doesn't need to purchase a separate policy. However, she explores HSA contributions to maximize tax benefits.

Emily’s Total Taxes and Deductions

• Gross Consulting Income: $30,000
• Business Expenses: -$5,000
• Net Income: $25,000
• Self-Employment Tax: $3,825
• Deduction for Self-Employment Tax: -$1,912.50 (deducted from adjusted gross income, not from the self-employment tax payment)
• Taxable Income After Deductions: $25,000 - $1,912.50 = $23,087.50

Also, Emily then has to pay federal taxes on $23,087.50 in quarterly installments. Since she’s already making $250,000 in salaried income, every dollar earned moonlighting is taxed at the 35% bracket.

When it’s all said and done, Emily keeps about $15,006.875 from her initial $30,000 side gig revenue– sans expenses, self-employment tax, and federal tax. 

Other considerations include other deductions and credits she can make and potential State and Local Taxes (SALT) if she lives in San Francisco or NYC. 

Making Cents of Moonlighting 

​​Moonlighting can be a smart move for high-earners looking to diversify their income, gain new skills, or pursue passions. 

You might end up paying an eye-raising chunk of your side gig money in taxes, as seen with Emilly’s example above, but that’s where working with a tax-smart financial planner comes in, a critical asset in making sure you tap into every possible tax advantage and keeping more of what you worked so hard to earn. 

For example:

1.  Tax-advantaged accounts like Roths (or even Mega Backdoors, if possible through your retirement accounts in your salaried job) can set you up nicely for retirement.
2. Traditional IRAs can score some deductions and lower your tax burden today. 
3. HSAs offer a triple-tax advantage– lowering your taxes today. 

In closing, let’s reiterate some of the key takeaways: 

1. Report all additional income using the correct forms, such as Form 1099-NEC and Schedule C (Form 1040). 
2. Maximize your deductions for business expenses, including home office, equipment, travel, professional services, and marketing.
3. Plan for and pay quarterly estimated taxes to avoid penalties.
4. Ensure compliance with your employment contracts and relevant regulations.

Balancing a full-time job and a side hustle can be demanding, but with careful planning and smart tax strategies, you can make it a financially rewarding endeavor. 

So, get out there, hustle smart, and keep yourself and Uncle Sam happy!

 

This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.