Close to 2 – 3-million people drive for ridesharing services like Uber and Lyft in the US. Many drive part-time, while some go to full-lengths like operating fleet of cabs. No matter what your business model is, you will need to pay taxes on your income from your ridesharing business.
Now, how you register your business can influence your legal liabilities and the amount of taxes you pay. We have created this exclusive ridesharing 101 blog to help you understand the nuances of accounting, bookkeeping, and taxes.
Before we go into details, we will answer a fundamental question.
Do I Need to Register My Ridesharing Business?
Rideshare drivers are classified as independent contractors, unless you’re in California. You don’t need to register with your state government when you drive for on-demand cab services like Uber and Lyft. The IRS will automatically consider your ridesharing business as a sole proprietorship, with no requirements for legal documentation.
Operating as a sole proprietor is the simplest way to manage your business. However, registering yourself as an LLC or S corp may have some legal and tax benefits.
In that case, you will have to get your business in the books of government at various levels.
Which is the Appropriate Business Entity?
Most businesses around you fall under five main types of entities. Most rideshare drivers who operate as one man go for the sole proprietorship model. The main differences between the entities boil down to three main factors-
- Ownership structure (how many people run the business)
- Degree of protection from personal liabilities, debts, and business obligations
- Nature of taxation
You can enjoy certain legal and tax benefits by registering your ridesharing business as an LLC or S corp. We will come to that in more details later. Here’s a quick summary table of the advantages and disadvantages of the relevant entity types for most rideshare drivers.
Sole Proprietorship Vs. LLC: A Closer Inspection of Both Models
The default model of business the IRS puts you in when you drive for ridesharing will be a sole proprietorship. It’s also the simplest, cheapest, and easy to manage.
As we said earlier, a sole proprietorship also needs no special legal documentation or registration. Naturally, most rideshare drivers go for this entity for its hassle-free setup.
However, the business risks might be higher in the case of a sole proprietorship. There will be no difference between you and your business under the law As a result, any company asset or liability will be tied to your name.
Additionally, you will be personally responsible for meeting borrowings made by businesses and lawsuits.
The implications of ridesharing and carrying countless people in the vehicle can also make the driver vulnerable. You may attract more legal action than other professions and industries.
Business taxes are treated along with your individual filings. IRS will take income tax and self-employment tax on profits from your ridesharing business.
A sole proprietorship can make sense if-
- You are just giving ridesharing a try
- Driving part-time or temporarily to earn side income
- You have another main earning source or employment
Limited liability company (LLC)
As the name implies, an LLC offers a degree of protection for rideshare drivers. Your business is going to be a different legal entity when you register as an LLC. This makes you free from liabilities like a corporation and the opportunity to enjoy personal tax filings like a sole proprietor.
LLCs are not subject to as many regulatory requirements like corporations and can protect drivers’ personal assets. You can safeguard your personal investments and properties (like your house and car) in case of debts and lawsuits against your LLC.
It’s important to note an LLC doesn’t protect you from all business risks. An LLC offers protection only for contractual liabilities, or liabilities that arise due to not meeting your defined responsibilities outlined in your contract of doing business.
An LLC will not protect you from tort liabilities, like liabilities from causing an accident and crashing the car. In such cases, supplemental insurance can be a good choice keeping yourself unaffected by your business.
A big advantage of LLC is the freedom it gives you to handle your taxes as you please. You can report your rideshare earnings and expenses as-
- A sole proprietor
- An S corp
- A C corp
By default, single-member LLCs are taxed as sole proprietorships and multi-member LLCs are taxed as partnerships. However, going with the S corp tax election may bring certain benefits, especially to high-earning drivers.
LLC filing as a sole proprietorship
- Your business income is passed through to your personal tax returns
- You pay self-employment tax on your LLC business income plus income tax based on your income bracket
LLC filing as a C corp
- You need to file a corporate tax return in addition to your personal tax return
- Corporate tax rates will apply to your business income (21% as of FY 2019)
- You pay income tax on any salary income you get from the business on your personal tax return
LLC tax filing as an S corp:
- Your business income is passed through to your personal tax returns
- Self-employment tax is calculated only on earnings that come in the form of salary
- Any additional business profit avoids taxation and gets treated as dividends
Note: Salaries should match industry standards, and shouldn’t be too low.
LLC model can make sense if-
- Your ridesharing business is your primary income
- It’s a full-time employment
- You run many companies
- You own plenty of assets or have a high net-worth
Example of tax savings by filing under S Corp as an LLC
Here is an example of how much you can save by filing as an S Corp for your LLC. We will consider you pay yourself 30% of your net income as salary.
You must pay self-employment tax on your entire net business income if you choose to pay tax as a sole proprietor. 15.3% tax under self-employment for an initial $137,000 in net income will apply. For any additional income, you pay an extra 2.9%. You can, however, deduct half of your employment taxes.
Your salary under S corp should match the industry standards. The IRS will give you a hard time if you quote unexplainable wages just to avoid taxes. Taking high salaries can also put you in a higher tax bracket.
When Should I Choose to File as an S Corp?
Generally, it only makes sense to apply for the S corp tax election if it will help you save on taxes. To figure this out, follow these simple steps:
- Identify a reasonable salary for someone like you
- Subtract this salary from your estimated annual net income
- If the amount is positive, you may benefit from an S corp tax election
Registration Process for LLC
1. Get Thorough Information
You will have to register your business in every state in which you want to run the ridesharing business as an LLC. For most states, you will have to deal with the Secretary of State office.
Get online and navigate to the page of Secretary of State’s for detailed information.
2. Name your LLC
You sure would be excited to choose your business name! Once you have done that, select the brand components you want to protect. You can go for the following name registrations for your LLC-
- Entity name for state-level protection
- Trademark for federal-level protection
- A domain name for website protection
Most rideshare drivers looking to operate as an LLC would be fine with just registering their entity names.
3. Seek Professional Assistance
Registered agents or business registration services handle your legal documentation when you register as an LLC. Find someone in your local area to register your business.
4. Open Your Account with the Government
You may be able to register with state agencies online or need to mail or deliver documents in person.
- Documentation requirements for each entity can be found online at IRS
- Follow your Secretary of State’s website instructions
5. Apply for Your EIN
You need a federal tax ID or Employer Identification Number (EIN) to-
- Get a business bank account
- File taxes to the government
- Recruit staff
The EIN is just like the business equivalent of your personal social security number.
6. Sign Up with Your Provider
Now you can register yourself as a driver with the ridesharing company. Consult the business for more details on the documents and formalities for joining the team.
S Corp Tax Election Process for LLC
Form 2553 will help you have your LLC taxed as an S corp with the IRS.
Ridesharing Financial Records
The systematic organization of your financial records and creating accounts is called bookkeeping. The simplest example of bookkeeping is an income and expense account.
In the case of rideshare drivers, bookkeeping will involve tracking earnings and expenses like fuel costs.
Why is Bookkeeping Necessary for Rideshare Drivers?
You can track your earnings with your rideshare app – but you will need more work to track your expenses. Bookkeeping helps you record, organize, and store your earnings and expenses.
Your rideshare app gives you a complete record of your earnings. Along with that, you will need a business bank account to register as an LLC or even as a limited partnership business.
Sole proprietors can use their personal bank account for business transactions. This is ideal for single drivers and even comes with lower fees. However, you should open another personal account and use separate credit cards to handle all your business transactions.
- A business account is ideal for most, and provides a range of benefits-
- Keeps your business and personal transactions separate
- Gives more credibility and legitimacy to your business
- Special value-added services like invoicing, tax management, and expense tracking
- Stay prepared for IRS audits
- Enjoy low fees
Tracking expenses is obviously necessary to report business profits. You can use a credit card to track all your business expenses. If you don’t use cards, go for business checking accounts for easy expense tracking.
Along with tracking, you also need to sort and categorize your expenses. Thankfully, a range of solutions can do your job easy!
We will take a look at the most important expenses for you later in our post.
Staying on Top of Mileage
Tracking mileage is crucial to report your earnings and save tax. For a rideshare driver, expenses like fuel costs, maintenance costs, insurance, are most important. You need to have a good record of your mileage to meet IRS regulations and minimize taxes.
Some drivers have one car for ridesharing and personal purposes. You will be, however, only be able to claim expenses on your business mileage. Any personal use cannot be claimed against your business income.
You may think of using the tax summary from your ridesharing company to annual mileage. However, they don’t always give you the right measure as they don’t track distance in many cases. For example, your tax summary will not track the miles you drive without passengers.
Additionally, tax summaries won’t track your business miles when you-
- Switch between apps like Uber and Lyft
- Work for many ridesharing companies
- Drive to the garage, or gas station
- Drive to source business-related equipment like dash cams
A sole proprietorship is a simple and easy way to manage your ridesharing earnings and taxes – but does come with an unlimited liability risk. If you’re looking at your business for the longer term, you may be able to save more taxes by registering as an LLC.
No matter what your choice, be sure to track your income and expenses for accurate filings and more tax savings.