Income Tax Rules for Freelancers

A regular 9-to-5 job doesn’t work for everyone. Many people prefer having the freedom to explore their interests, spend more time with family, or simply avoid a fixed daily routine. That’s why freelancing has become a popular choice, as it allows individuals to work from home, a café, or even a coworking space. However, when it comes to income tax, freelancers are treated like any other taxpayer and are required to pay tax on the income they earn.

Freelancing Income

Freelancing income arises when you are engaged to complete specific tasks or projects for a fixed duration and are paid after the work is completed and delivered. Unlike regular employment, freelancing does not assure continuous work, but it offers greater control over your schedule and workload. As a freelancer, you are not considered an employee and are not included on the company’s payroll. You are also not entitled to statutory benefits such as provident fund. On the positive side, there is no requirement to attend an office, and you can finish the work within the agreed deadline from any location and at a time that suits you.

Under Indian income tax laws, earnings generated through the use of intellectual or physical skills are treated as income from a profession. Such income is taxed under the head “Profits and Gains from Business or Profession.” Your total income will include all amounts received while providing professional services. Bank statements can be used to identify this income, as long as all professional receipts are credited through banking channels.

Expenses Allowed as a Deduction

Freelancers are allowed to claim deductions for expenses incurred while carrying out their professional activities. These may include costs such as office furniture, travel expenses for client meetings, and other work-related expenses. However, such expenses must have a clear connection with the freelance work undertaken to earn the income.

Conditions to Claim Expenses as a Deduction from Freelancing Income

• The expense must be related to the freelancing activity being carried on

• It should be incurred wholly and exclusively for professional purposes

• The expense must be incurred during the relevant financial year

• It should not be a capital expense or a personal expense of the freelancer

• It must not be incurred for any illegal or prohibited activity

• The freelancer should not be opting for the presumptive taxation scheme

Expenses That Can Be Claimed as a Deduction Against Income

Rent of Property
If you have taken a property on rent for professional use, the rent paid can be claimed as a deduction.

Repairs and Maintenance

Repair expenses for a rented property can be deducted if you are responsible for bearing those costs. In case you own the business premises, repair expenses incurred are also allowable. Additionally, repair costs for work-related equipment such as laptops, printers, and other devices can be claimed.

Depreciation

Capital assets are items whose benefits extend beyond one year. The cost of such assets is not claimed as an expense in the year of purchase. Instead, a portion of the cost is allowed as an expense every year, known as depreciation.
For example, if you purchase a laptop for ₹60,000 for freelance work, it is treated as a capital asset. Assuming a depreciation rate of 33.33% per year, ₹20,000 can be claimed as an expense annually. After three years, the asset is considered fully depreciated. The types of assets, applicable depreciation methods, and rates are prescribed under the Income Tax Act and must be followed accordingly.

Office Expenses

Day-to-day expenses incurred for professional work, such as printers, stationery, telephone bills, internet charges, and local conveyance expenses, are eligible for deduction.

Travel Expenses

Expenses incurred for travel to meet clients, whether within India or abroad, can be claimed as deductions.

Meals, Entertainment, or Hospitality Expenses

Costs incurred for client meetings, business meals, or entertainment are allowable when the expenses are incurred solely for acquiring new business or maintaining existing clients.

Local Taxes and Insurance

Local taxes paid and insurance premiums for business-owned property are eligible for deduction.

Other Allowable Expenses
Expenses such as domain registration charges and the cost of applications purchased for product testing purposes can also be claimed as deductions.

Claiming Expenses Used for Both Personal and Professional Purposes

When an asset or expense is used partly for professional work and partly for personal use, only the portion that relates to earning your professional income can be claimed as a deduction.

Example:
If your mobile phone is used for both personal and business calls, only the part of the mobile bill that corresponds to your freelance work can be deducted from your income.

Expenses That Cannot Be Deducted from Your Income

As per the Income Tax Act, the following expenses are not allowed as deductions from your income:

• Income Tax Paid: Any tax paid on your income cannot be claimed as an expense.

• Interest, Penalties, or Fines: Any interest, penalty, or fine for late or non-payment of income tax is not deductible.

• Payments to Relatives or Related Parties: Payments made to a relative (spouse, or any lineal ascendant or descendant) or to someone with a substantial interest (20% or more in equity or profits) in your business will not be allowed if the payment is not at fair market value (Section 40A(2)).

• Cash Payments Over ₹10,000: Any single expense paid in cash exceeding ₹10,000 is disallowed as a deduction (Section 40A(3)).

Case Study 1:
Rohit, a freelance photographer, rents premises owned by his married sister to carry out his work. Rent is generally an allowable deduction from freelancing income. However, Rohit decides to pay a rent higher than the fair market value to divert income to his sister.

Impact:
If Rohit claims the full rent payment as a business expense, the Income Tax Department may scrutinize it. Since the payment exceeds the reasonable market rent and is made to a relative, the Assessing Officer may disallow the excess portion. Even if Rohit’s sister pays only 10% tax on the rental income under slab rates, the deduction claimed by Rohit must reflect the fair market value of the premises. Any amount beyond that is not allowed.

Case Study 2:
Rohit hires another photographer to meet seasonal demand and pays Rs. 25,000 in cash for the service.

Impact:
As per Section 40A(3) of the Income Tax Act, any single payment exceeding Rs. 10,000 in cash is not allowed as a deduction. Therefore, the cash payment of Rs. 25,000 will not be deductible from Rohit’s freelancing income. To claim it as a legitimate expense, payments should be made through banking channels like cheque, NEFT, or UPI.

Presumptive Taxation

If you want a simpler way to pay taxes without the hassle of maintaining detailed books or getting them audited, you can opt for presumptive taxation. Under this scheme, a fixed percentage of your turnover or gross receipts is treated as your taxable income, instead of calculating income and expenses the regular way. It serves as an alternative to the standard method of income and tax computation.

For Freelance Businesses:

• If your business turnover does not exceed ₹2 crores, you can declare 8% of your turnover/gross receipts as your taxable income.

• If your receipts are through digital transactions, only 6% of the turnover needs to be declared.

• The turnover limit is increased to ₹3 crores if cash receipts do not exceed 5% of the total receipts.

For Freelance Professionals:

• If your gross receipts from professional activities do not exceed ₹50 lakhs, you can declare 50% of your gross receipts as your taxable income.

• The limit is increased to ₹75 lakhs if cash receipts do not exceed 5% of the total receipts.

This scheme makes tax compliance simpler and reduces paperwork for freelancers.

Income Tax Filing Process for Freelancers

Filing income tax as a freelancer involves the following steps:

1. Visit the Income Tax E-Filing Portal
   Start by logging in to the official Income Tax E-Filing portal.

2. Choose the Correct ITR Form

   • If not using the presumptive taxation scheme: Select ITR-3. Fill in all required details, including:

     • Basic personal information

     • Gross total income

     • Deductions and taxable income

     • Business and professional income details

     • Profit & Loss statement and Balance Sheet

     • TDS (Tax Deducted at Source), advance tax, and self-assessment tax details

   • If using the presumptive taxation scheme: Select ITR-4. Fill in details such as:

     • Basic personal information

     • Gross total income and deductions

     • Taxable income from business/profession

     • TDS, advance tax, and self-assessment tax details

3. Check Form 26AS
   Use Form 26AS to verify TDS and TCS credits available, which can be applied to offset your tax liability.

This ensures accurate filing and proper calculation of taxes for freelancers.

Books of Accounts for Freelancers

Freelancers need to maintain proper records of their income and expenses. One key decision is whether to account for income when it is earned or when it is actually received. The two main accounting methods are:

1. Accrual Basis (Mercantile Basis) – Income and expenses are recorded when they are earned or incurred, regardless of when the money is received or paid.

2. Cash Basis – Income and expenses are recorded only when the cash is actually received or paid.

Important Points to Remember:

• The chosen accounting method must be applied consistently for all clients, revenues, and expenses.

• According to ICDS 1, individuals or HUFs required to get their accounts audited under Section 44AB must follow the accrual basis for computing total income.

Choosing an Accounting Method:

• While a cash basis may seem to reduce tax liability, it usually only postpones tax payments rather than reducing them.

• Once a method is chosen, it must be applied consistently. Changing it frequently to save taxes is not allowed.

• Generally, the accrual basis is more logical unless your receipts are irregular or unpredictable.

Legal Requirements:

• The Income Tax Act requires freelancers to maintain books of accounts as per Section 44AA and Rule 6F.

• There is a threshold of income/turnover below which maintaining books is not mandatory.

• If you opt for the presumptive taxation scheme, maintaining books of accounts is not required.

How to Choose an Accounting Method

While it may seem that using the cash basis of accounting could reduce your tax liability, in reality it only postpones your tax payments rather than lowering them.

Once you select an accounting method, you must apply it consistently for all income and expenses. Frequent changes to the method, especially to save or avoid taxes, are not allowed.

In most cases, the accrual basis is more practical, unless your receipts are irregular, uncertain, or unpredictable. The Income Tax Act mandates that books of accounts be maintained under Section 44AA and Rule 6F.

However, there is an income/turnover threshold below which maintaining books is not required. Additionally, if you opt for the presumptive taxation scheme, you are not required to maintain any books of accounts.

Total Taxable Income and Tax Payable

You can lower your tax liability by claiming deductions under Section 80 of the Income Tax Act. In particular, Section 80C provides tax relief on certain expenses and encourages savings by allowing deductions on investments in specified financial products.

Net Taxable Income = Gross Taxable Income – Deductions under Section 80

Under Section 80C, you can reduce your taxable income by up to ₹1.5 lakh based on the actual amount invested or spent on eligible instruments.

If your income exceeds the basic exemption limit (₹2,50,000 under the old tax regime and ₹3,00,000 under the new regime), you are required to file an income tax return.

The tax payable is then calculated based on your net taxable income according to the applicable tax slabs.

Tax Payable by a Freelancer

If a freelancer’s total tax liability in a financial year exceeds ₹10,000, they are required to pay advance tax.

How to Calculate Advance Tax:

1. Determine Total Income: Add up all your receipts from freelancing.

2. Deduct Work-Related Expenses: Subtract expenses that are directly related to earning your income.

3. Include Other Income: Add income from other sources, such as house property, savings account interest, etc.

4. Apply Tax Slabs: Determine your applicable tax slab and calculate the tax due.

5. Deduct TDS/TCS: Subtract any Tax Deducted at Source (TDS) or Tax Collected at Source (TCS) already credited to you.

If the resulting tax payable exceeds ₹10,000, you must pay advance tax by the due dates specified by the Income Tax Department.

Applicability of GST to Freelancers

Earlier, freelancers were subject to VAT and Service Tax, but these have now been replaced by GST.

If You Sell Goods:
GST has replaced the earlier VAT. The applicable rate depends on the type of goods you sell. For example, if you bake and sell cakes, the GST rate is currently 18%.

If You Provide Services:
Most services, including freelance services, attract 18% GST. You are required to charge this GST to your clients. You can refer to the latest GST rates using a GST Rate Finder for updates.

Example:
If your total billing to a client is ₹75,000 and GST is 18%, the GST amount will be ₹13,500 (75,000 × 18%). You must invoice your client for ₹88,500, which includes the GST. The ₹13,500 collected as GST must then be deposited with the government.

Should Freelancers File TDS Returns?

Freelancers may sometimes receive payments after Tax Deducted at Source (TDS), and in certain cases, they are also required to deduct TDS before making payments to others.

Illustration:
Roshni is a freelance graphic designer working with multiple clients. Each client deducts TDS before paying her, but she may not be aware of her own TDS obligations.

Many freelancers operate under a business name with a current account for professional use and are treated as small businesses for tax purposes. For example, if Roshni hires other professionals to meet tight deadlines, she must deduct TDS on payments made to them.

TDS Applicability for Freelancers:

• TDS applies at 10% on payments exceeding ₹30,000 per transaction or in aggregate during a financial year.

• The deducted tax must be deposited with the government.

• Freelancers are required to deduct TDS only if their accounts were audited in the previous financial year, which happens when annual gross receipts exceed ₹50 lakh.

• If annual gross receipts are below ₹50 lakh, TDS deduction is generally not required.

Freelancers must check which payments are subject to TDS under the law. Once TDS is deducted, they are responsible for depositing the tax and filing TDS returns.

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