A common question that freelancers have when setting up their accounting systems is whether to obtain an employer identification number or EIN. So do freelancers need an EIN? While those working solo are not required to get one, there are a variety of benefits to consider when making the decision.
What is an EIN?
An Employer Identification Number is a nine digit number issued by the U.S. Internal Revenue Service (IRS) to business entities. Its purpose is to identify and track a business’s tax responsibilities. Some of the businesses that use EINs include:
- Sole proprietors
- Nonprofit organizations
- Estates of decedents
- Government agencies
A key idea is that a business or self-employed person does not have to actually employ workers to apply for and hold an EIN.
Freelancers Need an EIN to Minimize Business Risk
When people talk about the risks of freelancing, they often discuss things like finding and maintaining clients, economic uncertainty, and obtaining health insurance. But freelancers also face the risk of identity theft causing a loss of reputation, time wasted to sort out the mess, and possible legal fees.
Why does this mean freelancers need an EIN? Because federal tax law requires businesses and individuals who hire freelancers to file tax form 1099 on annual earnings over $600. To meet this requirement, employers request that freelancers submit and certify their taxpayer information via form W-9. As such, freelancers must provide their Social Security number and other identifying information to multiple clients. This increases the chances that their data could fall into the hands of an identity thief.
Responsible businesses and clients treat W-9 forms carefully, keeping them secure and restricting access to specific employees. However, some employers aren’t as careful. Even worse, perpetrators of various work-at-home scams may use information provided on a W-9 to steal a freelancer’s identity.
Use of EIN in Setting Up Business Profiles with Payment Applications
Another reason freelancers need an EIN is for setting up a business profile in payment applications such as PayPal and Venmo. These applications provide an easy way to bill clients and collect payment. However, the IRS requires the companies operating these applications to report total payment volumes received by business profile account holders whose payments meet or exceed both of these levels in a calendar year:
- $20,000 USD in gross payment volume, AND
- 200 payments in the same year
A few state exemptions exist. The list includes residents of Massachusetts, Maryland, Vermont, and Virginia that have a payment threshold of $600 USD, regardless of the number of transactions. Also, Illinois residents have a $1,000 USD threshold with three or more transactions. Freelance businesses crossing these thresholds are issued a 1099-K to ensure that income is reported and are also required to confirm their taxpayer status at that time. An EIN facilitates this process.
Additional Reasons Freelancers Need an EIN
In addition to minimizing the risk of identity theft and setting up business profiles in payment applications, there are other benefits to securing an EIN.
- Easier to separate business and personal finances.
- Facilitates filing business taxes and avoids penalties.
- Required in many instances to open a business bank account.
- Needed to establish business credit history and speed up loan applications.
- Adds professional credibility with clients and vendors.
- Allows the hiring of employees or subcontractors.
- Enables non-U.S. citizens to establish a U.S. business.
How to Get an EIN
Obtaining an EIN is relatively straightforward. You can sign up if you are a sole proprietor, an LLC, or a subchapter S corporation, which are the most common types of business organizations for freelancers. The IRS provides EINs at no cost and offers several different application methods. All you need is a valid taxpayer identification number — usually a Social Security number. The IRS prefers online applications — which take about 15 minutes to complete — and assign you an EIN on the spot. However, you can also apply by fax or mail. International applicants with no place of business or legal residence in the U.S. can apply over the phone as well as by fax or mail. Complete instructions are available on the IRS website.
Some states require businesses to obtain a state identification number as well. Contact your state’s tax authority to learn about your state’s laws.
Avoid EIN Scams
While getting an EIN can offer significant protection against personal identity theft, remaining vigilant against scams and attempts at business identity theft is equally as important. Some identity thieves use EINs and other sensitive information to open business lines of credit and other financial devices. This means that you’ll need to use the same discretion in providing your EIN to potential clients as you would your Social Security number. Therefore, do your due diligence and establish that a business is legitimate before turning over sensitive information.
Never pay a third party to obtain an EIN for you. You can do this yourself by applying directly to the IRS for your number. Be suspicious of any electronic communications from the IRS requesting your EIN. The IRS doesn’t communicate via email and encourages people to report these communications to the Federal Trade Commission (FTC). If you are ever concerned about communications from someone claiming to be from the IRS, visit the IRS Report Phishing page for details on how to determine whether the individual contacting you actually works for the IRS.
Gain Credibility and Financial Footing With an EIN
While it’s not required, an EIN may be a valuable asset to some freelancers. Setting up a strong financial foundation, minimizing risk exposure, and building credibility with your clients are just a few of the benefits. Start your business off on the right foot and take a few minutes to get your EIN today.
Do freelancers need an EIN? Or have you been working as a sole proprietorship? What works better for your needs as a freelancer? Connect with Virtual Vocations on Facebook, Twitter, LinkedIn, Instagram, and YouTube to share your thoughts and tips. We’d love to hear from you!
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Updates provided by Skye Rodgers