If you've ever visited Etsy.com, chances are you were captivated by the vintage clothing, homemade goods and unique gadgets being sold on the platform. Selling goods on Etsy might seem like an innocent hobby to the unassuming. However, keep in mind that Etsy shop owners who make profit must report and pay federal income taxes.
Is My Etsy Shop a Business or Hobby?
In order to know whether or not you need to pay taxes for your Etsy earnings, you need to first determine if your shop is a hobby or a business. The IRS classifies a business as any activity you regularly engage in with intent to generate income. The IRS official website provides a basic guideline for taxpayers to follow when determining the nature of their business.
Etsy is required to send both the vendor and the IRS a form 1099-K under the following circumstances:
- The vendor made $20,000 USD in sales through Etsy Payments.
- The vendor received 200 or more payments through Etsy Payments in the same time period.
Many shops do not generate substantial income in the first few years of conception. However, these shops may still be considered a business due to time spent and expectation of future profit.
My Etsy Shop Is A Hobby. What Now?
You will have significantly less paperwork to deal with if your Etsy shop is a hobby. While your income may still be subject to taxes, you will not be subject to self-employment taxes. Regardless, you should still report all profits made from your hobby as "other income" on your Form 1040.
If you begin generating more profit over time then you may have to file as a business in the future. Cover your bases by keeping your records organized in case you will have to file as a business.
My Etsy Shop Is A Business! Where Do I Start?
If the IRS considers your Etsy shop to be a business, don't worry! Although filing your own taxes may seem grueling, the process is simple when you break it down. Etsy requires shops that qualify as businesses to pay income tax on profit as well as additional taxes. Some of the taxes Etsy shop owners must pay as a business are:
- Self-Employment Tax: Any individual generating income over $400 must pay self-employment tax (Medicare and Social Security taxes) on Form 1040 (also known as Schedule C) annually.
- State Income Tax: Certain states require individuals to pay taxes on business profits.
- State Sales Tax: State sales taxes are a little trickier to understand as the tax rates will vary from state to state. In order to fully understand how you should collect state sales tax, Etsy has created a guide for shop owners.
- Profit or Loss From Business: The IRS expects you to report profits and losses on Form Schedule C annually. (Note: Etsy shops that are "hobbies" must also report income.)
Many Etsy shops are run by one person who handles everything. If that is the case for your shop, then you can use your Social Security number to file and pay your business taxes. Otherwise, you will need to register for a federal employer identification number (EIN). You may choose this option even if you are the sole proprietor.
What Expenses Are Deductible?
The IRS states expenses are deductible if they are "ordinary and necessary." An ordinary expense is "common and accepted in your field of business." Expenses that are helpful to your business are considered necessary. Listed below are some examples of deductible expenses:
- Shipping costs (packaging, stamps, etc.)
- Bank, Venmo, Paypal and CashApp fees
- Studio/office space (home offices count!)
- Advertising and listing fees
- Mileage for any business related expenses (individual vehicle expenses are not considered deductible)
When Should I Pay My Taxes?
Etsy shop owners must make quarterly estimated tax deposit payments. because they are "self employed." Self-employment income, K-1 income, rent, royalties and unemployment income are all subject to estimated tax deposit payments. The due dates for payments are April 15, June 15, September 15 and January 15. If an individual fails to make their quarterly payments, they may be subject to the estimated tax penalty on their tax return.
In conclusion, owning an Etsy shop can be financially and personally rewarding. However, if your shop has generated substantial income you must report it to the IRS! In order to continue to successfully run your business, you must keep careful records of your transactions. The Lifeback Tax team created a guide to help independent business owners keep track of their records. Use this guide as well as the IRS official website to make sure you stay up to date on all current tax news.