Taxes, But for Uber

Visit the online forums where Uber and Lyft drivers congregate, and you'll find stories about awful passengers and suggestions for how to increase customer ratings. You'll also see a lot of confusion about taxes.

It's relatively easy to become an Uber driver—the company's ads stress the ease with which you can go from "chilling" to "earning" at the touch of a finger on a phone-based app. It's much harder to navigate the federal revenue code after doing a few shifts behind the wheel. Many Uber drivers, and millions of other workers in the so-called gig economy, may not realize that they're becoming independent contractors, and therefore are signing up for a more complex tax status.

Workers who earn a salary or hourly wages get a W-2 form from their employer at the end of the year and use that information to fill out their federal income tax returns. Because almost all W-2 employees have taxes withheld during the year, the process is usually straightforward. It may even feel rewarding when the government refunds some of their money.

Being an independent contractor is very different. These workers don't have income taxes withheld, and they're on the hook for both halves of the federal payroll taxes that fund Social Security and Medicare. (W-2 workers have half of those taxes covered by their employers.)

Independent contractors have always had to deal with these complications, but the number of Americans who fit into that category has grown dramatically in recent years, thanks to the explosion of online platforms making it possible for millions of people to get a supplementary paycheck by driving for Uber, selling homemade crafts on Etsy, renting extra bedrooms via Airbnb, and so on. More than 2.5 million Americans now earn income each month through gig-economy jobs, according to data collected by JPMorgan Chase; there could be as many as 7 million by 2020.

When workers in the gig economy become entrepreneurs overnight, doing their taxes suddenly becomes "a daunting task," says Romina Boccia, deputy director of the conservative Thomas A. Roe Institute for Economic Policy Studies. Gig-economy platforms offer some help, but, as the title suggests, "independent" contractors are mostly on their own.

Airbnb commissioned Ernst & Young, a major accounting firm, to put together a 28-page tax guidance pamphlet that was distributed earlier this year to all hosts—i.e., those offering short-term room or home rentals through the site. But it's hardly meant to be comprehensive.

"Readers are encouraged to consult with professional advisors for advice concerning specific matters before making any decision," the booklet warns on one of the first pages. Getting that help means adding more unexpected expenses to the tax season tally.

Unfortunately, the internal revenue code is stuck in the past. It hasn't been updated in more than 30 years, when platforms like eBay and Amazon—the first major precursors of the idea that you could run a business with nothing more than something to sell and an internet connection—were over a decade away. When President Ronald Reagan signed the Tax Reform Act of 1986, he was closer in time to the first Eisenhower administration than he was to today.

An update to the federal tax code is clearly overdue. As Congress tackles tax reform, most of the discussion will focus on top marginal rates, but lawmakers also have an opportunity to update the books to account for the growth of independent contractors and peer-to-peer employment—a trend that is unlikely to reverse in the coming decades.

"Tax reform's promise of simplifying taxes is critical for sharing-economy providers," Boccia says.

Even if Congress isn't interested in workers' sanity come tax time, legislators may have a more self-interested reason for reform: Simplifying the tax code for small-dollar independent contractors could net billions in new revenue from independent contractors who currently fail to file due to confusion about their tax status and what the law requires of them.

According to Caroline Bruckner, managing director of the Kogod Tax Policy Center at American University, "inaction has very real implications on the Treasury and the IRS' ability to fairly and efficiently collect taxes."