I make websites and recently started invoicing via paypal. I have a few clients that paid me over 10K+ in 2017. Today I just realized that I got a 1099 from paypal for those payments.

But these web projects haven't even started yet as I need to hire people to do them so I don't even know my exact expenses yet.

Do I still pay the full amount of taxes with what was paid to me in 2017 even though I don't know my expenses yet? I'm not sure how to go about this.

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    To keep things simple, you should probably just use cash accounting. That means you recognize revenue when you are paid and recognize expenses when you pay them. This is much simpler than using accrual, but if you are willing to go through the complexity, you can recognize revenue when you earn it and expenses when you incur them instead. You must pick an accounting method and employ it consistently. Cash is much simpler. – David Schwartz Mar 22 '18 at 5:15
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    @David Schwartz: Seems to be a good answer - why not post it as one? – Daniel Mar 22 '18 at 9:33

If you're using cash accounting (which you are; you'd have to elect accrual, and that would come after a long discussion with your accountant) you include income when it's received and you take deductions when they occur. So, yes, you pay 2017 taxes on the money you received in 2017. And you deduct expenses for that project when you pay for them.

With cash accounting, tax liabilities don't correspond to your notion of what a project is. They're purely calendar-based. So overall your project earns you a fee and you pay expenses, and that's important for understanding how well your business is doing. But for tax purposes, there's no inherent connection between them; income comes in when it comes in, and expenses are paid when they are paid. Taxes are due each year, so you'll have a big tax bill for 2017 and lots of deductions for 2018, 2019, and as long as the project lasts.

If you were using accrual, you'd count income when it was earned, regardless of when you actually received it, and you'd count expenses when they became due, regardless of when you actually paid them. That makes your tax bill more closely match your view of what each project is doing. But that's more complicated, and often not worth the extra effort.

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  • Say I got 100K from clients in 2017 and my tax bill is about 35%. That means I have to pay $35k in taxes. Which leaves me with 65K to work with to finish these projects. What if in 2018, my expenses exceed 65K? I won't be able to pay for this as I paid my taxes already. This is what I'm worried about. – Patoshi パトシ Mar 22 '18 at 15:08
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    @Patoshiパトシ -- yes, that's a problem. Your expenses are deductible in 2018, so ultimately things work out. In the meantime, you may have a cash flow problem: not enough cash on hand to take care of ongoing expenses. That can be solved by putting your own money into the business or by taking out a loan. Or talk to an accountant about switching to accrual accounting. – Pete Becker Mar 22 '18 at 15:12
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    Or it can be solved by having a better idea of project costs before you decide what to charge :-) – jamesqf Mar 22 '18 at 18:13
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    So tax laws are inconvenient to you. Welcome to the club! – Jay Mar 22 '18 at 21:01
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    @PeteBecker RE inventory: No, you still must report an inventory even if you use the cash method. I had a small business for a while. You can't deduct the cost of goods sold until you sell them. So if you bought an item in, say, 2016 and didn't sell it until 2017, the cost is not deductible until 2017. Look at Schedule C part III. You take your beginning inventory plus new purchases minus ending inventory, and THAT is what's deductible. You report the total value of your inventory every year, but only what you sold this year is deductible. – Jay Mar 23 '18 at 6:34

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