In 2009, after working in music and venue marketing for 10 years, I started answering the phones at a busy tax prep firm in Chicago. It was supposed to be a temporary gig, but before long, my musician friends came to see me at the office. Next thing I know, I’m a musician’s tax preparer. It was a pivot I never expected, but being able to give that reassuring gift to my friends and clients was amazing.
The most common reason musicians made appointments was a sudden increase in income that they weren’t expecting. This almost always induced a panicky fear of taxes that overshadowed the pride they should have felt from actually making money with their music. From sudden sync licenses to successful Kickstarters, my clients received big 1099s and didn’t know what to do with them.
In my time working at various CPA firms in Chicago and Michigan, I’ve noticed some common mistakes that musicians make over and over. I want to help you eliminate these mistakes and keep money in your pockets with this musicians tax guide.
1. Not filing their taxes
There are two kinds of people. Those who go to the dentist every 6 months for cleanings, and those who only go when they’re in excruciating pain. Seeing a tax preparer is very similar. Not filing your tax return for years is pretty much ensuring that you’re going to feel some pain. The question is, will you need a quick round of antibiotics, or a root canal?
The biggest mistake people make with their taxes is to ignore them.
If you’re owed a refund, the IRS is sitting on your money and your chance to claim it disappears after 3 years. But if you owe them, you’re getting charged penalties of up to 25% per year – and you can be sure that penalty doesn’t expire. Don’t skip filing, even if you don’t have all the information or you know something is wrong. You can always amend your return later.
2. Not claiming income and expenses from the beginning
When you first start writing music, you’re probably not thinking too much about the business. You’re in the romance stage, deep in your feelings. And that’s great. We need that. But that romantic vibe doesn’t change the fact that when you write a song, you’re creating a piece of property. Intellectual property, to be exact. And whenever anyone loans their property to someone else in exchange for money, they are, by definition, running a business. It might be a professional business, or it might be a hobby business. But either way, that income is taxable.
As soon as you start making money from music, you have three options
- claim your income and expenses as a business,
- claim your income as a hobby, or
- ignore it completely and commit lightweight tax fraud.
If you’re a true, professional musician, you are going to willingly choose the first option, which means you have to start tracking your income and expenses from the minute you start making money from your art. I know – it’s horribly unromantic, but it will help you in the future.
3. Getting into bad partnerships
Business partnerships come in many forms. But in music, we most often see this when people decide to form a band. A business partnership is a marriage, plain and simple. It’s not *like* a marriage as a metaphor. It’s literally a marriage where you share a checking account, assets, debts, and insurance policies. Think about all the shitty stuff of marriage and none of the fun. (Unless you’re sleeping with your partner, but that’s a whole other article.)
Do not enter a business partnership lightly. Treat it like a marriage. You need to get engaged before you get married. During the engagement period, talk about the heavy stuff like:
- Do you want babies? (subsidiaries/merch companies/your own record label)
- Are you into swinging? (being in side projects)
- How’s your credit score?
- Who’s in charge of filing the tax return?
- Who gets the assets if we break up?
- What happens if one of us dies?
Have these conversations before you sign official paperwork. It will save you a ton of heartache down the line (and a ton of money – divorce attorneys are expensive).
4. Not reporting cash / Venmo / PayPal
Anyone auditing the entertainment business knows that we deal largely in cash, especially with events and merch. People who think they don’t have to claim cash (including Venmo and PayPal “friends and family”) are living in a fantasy world.
Yes, audits are rare – about 2.4% of self-employed people get the full audit treatment. But if it were to happen, one of the first things an auditor would do is check your income against your calendar or gig schedule. They’d see you had a gig in September and ask – how did you get paid? If the income made it onto your tax return, you’re in good shape. But if you got paid cash and thought you’d skip claiming that one, you’ll be paying tax, penalties, and interest on it instead. There are other reasons for claiming cash too, which leads us to…
5. Always taking a loss
A common tax avoidance strategy is to “reinvest” all your income back into the business while continuing to take losses year after year. If you have a day job supplementing, and the losses are legitimate and well-documented, then go for it. But if you’re inflating your expenses, living on credit or debt, or not claiming cash/Venmo income, you aren’t doing yourself any favors in the long run. For one, if you lose money more than 3 out of every 5 years, the IRS might send you a letter asking you to confirm that you’re running a business, and not investing in a hobby.
Businesses are meant to make money, not lose money year after year.
Second, showing a profit or business’s growth can help you in the future. Some examples are when you’re trying to get a mortgage, a van or merch loan, investors, or new partners. You would never want to tell a potential partner “Oh, our tax return from last year isn’t actually accurate – we were profitable! We just claimed a loss so we wouldn’t have to pay any tax.” YIKES. Don’t be this person. File an accurate tax return, even if you have to pay some tax because of it.
6. Not claiming accurate mileage
Musicians spend a ton of time on the road. Keeping accurate track of your miles throughout the year will help you get a nice deduction, will speed up the preparation of your tax return, and will cover your ass in an audit. There are some great apps to help with this. As a tax pro, I loved getting Excel print outs from apps like MileIQ or Expensify. In tax, paper trails are always good – in mileage, they are essential.
7. Not capitalizing assets
When you buy gear, the IRS gives you a couple different options for how to claim that expense and deduct it from your income. You can either take the entire expense at once, or you can spread it out over several years. If you aren’t profitable now, and plan to use the gear for several years when you will be profitable, taking the entire deduction at the beginning probably doesn’t help your tax situation much. If you already owe nothing, you don’t want to force a bigger loss.
Since you’ll be using the gear for 5-7 years in the future, the IRS allows you to deduct a percentage of the equipment each year.
Pay attention to capitalizing your assets and spreading out the deduction over a set amount of years. This means you’re offsetting your profit in the future. It’s a smart tax strategy that encourages business owners to invest in assets that can grow their businesses.
8. Underpaying estimates
Our income tax system is what you call a “pay-as-you-go” system, which means that your income, Social Security, and Medicare taxes are due pretty soon after you earn your money. The IRS understands you can’t pay them every time you get paid, so they set deadlines every quarter. Submitting your tax on these deadlines is called “paying estimates” and if you are profitable, estimates are required. Not paying into the system will trigger fat penalties at the end of the year, which accumulate every quarter, on top of the actual tax you owe. I’ve seen the penalties add up to hundreds of dollars between the IRS and the state.
Don’t give the IRS more money than they require – pay your estimates generously and on time, and if you overpay, you’ll receive a refund at tax time (which you can then roll forward to the next year’s estimates).
9. Ignoring your bookkeeping throughout the year
There’s always a moment in January when the world wakes up and goes “oh shit, I need to pay attention to my tax situation!” The phones get busy at local tax offices, prices go up on software packages, and – unfortunately – it’s then too late to make any changes to your annual books or profit.
Knowing how much you’re earning and spending is essential knowledge, every single month. You need this info to pay your estimates, to adjust pricing, to fix spending leaks, and to minimize your end-of-year tax burden. If the first time you’re looking at your annual bookkeeping is the calendar year afterwards, you’re almost certainly losing money in one way or another.
10. Not issuing 1099s to contractors
When you pay a freelancer for their help – like a manager, photographer, a hired gun, graphic designer, or web developer – you can deduct that expense from your income and decrease your tax due. But, you have to itemize all these expenses on your tax return by category, and the “contractor” category is one that triggers a lot of IRS red flags.
The biggest red flag is related to 1099s. If you have expenses listed under “contractors” but you haven’t issued any 1099s to the people you paid, the IRS might think you’re doing something fishy. A LOT of fraud and money laundering happens inside that “contractor” category, so the IRS put rules in place. If you pay anyone more than $600 during the year, you’re required to send them a 1099 documenting how much it was. Don’t be tempted to let your friends fly “under the table.” Increasing your own audit risk isn’t worth the tax they’d save.
11. Being afraid of the IRS
Last but not least on this musicians tax guide – the IRS is not scary. Read it again. Say it again, until you believe it. The IRS is full of humans just like yourself who are just trying to keep the government running (for better or worse).
The IRS – and scam artists impersonating them – make money off your fear. But I’ve been making phone calls to them for more than 10 years. And I can tell you with certainty that they are willing to work with you. The IRS is a taxpayer-funded agency and in principle, they answer to YOU. Yes, you have to follow their complicated rules, but they work hard to teach you what those rules are. They have a taxpayer advocacy group. They give you a handful of ways to communicate with them if you’re having a disagreement. And they always send letters – they will NEVER call you and threaten you. If someone told you a long time ago that you’d go to jail if you made a mistake on your tax return, let go of that myth. There are a dozen steps between your mistake and permanent consequences.
But if you are still afraid of the IRS – I understand. Most of my clients are, and that’s why they come see me. The key to releasing that fear is education.
Over the next several months, I’ll be guesting on Ari’s Take to go further on each of these issues. What musicians tax guide do you want to read about? What tax, bookkeeping, or finance questions are on your mind right now? Leave us a comment.
Photo by Fred von Lohmann