Self-Employment Tax: The Ultimate Guide
Self-employment tax is used to describe the federal income tax and social security and Medicare taxes that are paid by self-employed individuals.This is fairly more difficult than being a W2 employee, as you don't have an employer withholding money from your paycheck each month for federal income taxes, social security, and MedicareTherefore, you must pay these taxes or owe them when you file your tax return for the year. The good news is that many of the same deductions that are available to W-2 employees are also available to self-employed individuals.In this article, we'll go over all the things you need to know about self-employment taxes, from who is required to pay it to how you file your income taxes as a self-employed person.
Who pays Self Employment Tax?
Self-employment sector of our labor force, such as freelance artists, independent contractors, and small business owners is booming. This uptrend began way before the COVID-19 crisis even started.However, the numbers grew significantly last year. According to Forbes, nearly 1.9 million applications for new employment identification numbers were received by the IRS in 2022.You are considered as "self-employed" if you are an independent contractor or run a sole proprietorship (a one-owner business that is not incorporated), including a single-member limited liability company that is taxed as a disregarded entity for income tax purposes, or if you are an active partner in a partnership.You have net earnings from self-employment if your gross income from self-employment is more than the total of your deductions for the cost of goods sold, plus any home office deduction and other expenses deducted under the rules for Schedule C filers.Who Must Declare Self-Employed Income?
Net self-employment income, which is self-employment earnings after expenses, must be reported to the IRS by part-time and full-time employees who make $400 or more. Self-employment taxes may also apply to this income.Uncertain about any of this applicability to you? Sole proprietors, independent contractors, and partners are all considered to be "self-employed" workers. Freelance writers, photographers, designers, and drivers for ride-hailing services like Lyft and Uber are examples of the self-employed.You can use informational tax forms, like the 1099-NEC for non employee remuneration or the 1099-K for earnings from payment applications, that you might get as a self-employed worker to help you submit your tax return. However, the IRS still requires you to record your income and pay any self-employment taxes you owe even if you don't receive an informative tax form.Self-Employment Tax: What Is It?
Self-employment tax is typically levied on your wages if you work for yourself to fund the Medicare and Social Security programs. In addition to your income taxes, there is a tax.When you work for a traditional employer who reports your income on an IRS Form W-2, your employer typically contributes half of the 7.65% of your income that goes toward Medicare and Social Security taxes on your behalf. The remaining portion is paid by you. However, if you work for yourself, you are responsible for paying the full 15.3%.One solace is that you might be able to get a tax break by being able to deduct 50% of the self-employment tax you pay from your income.Are there any exceptions to Self Employment Tax?
There are a few exceptions to self-employment tax you should know about. If you perform services as a minister, member of a religious order, or Christian Science practitioner, you do not pay freelancer tax on wages received for those services.The same rule applies to qualified performing artists and certain professional athletes.In order to be responsible for paying self-employment tax, you must have net earnings from self-employment of at least $400.Net earnings from self-employment are gross income from your business minus ordinary and necessary expenses that are associated with running your business.When to Make Quarterly Tax Payments and How to Do It
Due to the fact that tax isn't deducted from a self-employed person's income, people who anticipate owing $1,000 or more in taxes for the year are expected to estimate their tax liability and pay it quarterly.To calculate your projected payments, use Form 1040 ES, the IRS's estimated tax worksheet.Following your calculations, you can transmit your estimated payments by check or online using the IRS's electronic federal tax payment system (EFTPS). Payments are due on April 15, June 15, September 15, and January 15 for the prior quarter. The deadline is the following business day if any of these dates fall on a weekend or holiday.It's wise to put the quarterly payment dates in your calendar because failing to pay taxes on time or paying them insufficiently can result in a tax penalty. If you have any concerns about how much you owe, go to an accountant.What is a 1099 Form?
If you're self-employed, you may be issued a 1099 form by individuals or businesses with which you have made transactionsThese forms are used to report income that isn't from wages. They include items like rental income, interest, dividends, and commissions. You don't need to wait until January to file your return (for the previous tax year) if you receive 1099 because these forms now come with an assigned IRS transmittal number. However, you must still attach the 1099s to your federal individual income tax return.It's possible that you received non-employment income in the form of interest from a bank account. or from a stock brokerage account that contains stocks that pay dividends. Alternatively, perhaps you had a freelancing or independent contractor job. Or perhaps you received unemployment benefits. Each sort of non-employment income requires its own version of the 1099 form, which must be used to report non-employment income to the IRS for tax purposes.For instance, independent contractors and freelancers should receive a 1099-NEC and include it in their tax returns if their non-employment income is $600 or more.Dividend income is reported on a 1099-DIV, while interest is recorded on a 1099-INT.Even though taxpayers detest receiving them even less than businesses do, 1099s are required by the IRS to keep track of income that isn't reported on a W-2 as earnings or salaries. Almost all W-2 and 1099 tax forms from your employer are compared to your Form 1040 tax returns or other tax records by the Internal Revenue Service (IRS). If they don't match, the IRS might notify you that you owe more money.What is Schedule C?
If you are a sole proprietor or an independent contractor, Schedule C is used to report your business income and expenses. This includes everything from the income you make from the products or services you provide to your business, any other personal service income you may have, your share of any partnership or S corporation income (if applicable), and deductions for expenses associated with your business.It’s easy to lose track of these, so you need to make sure that you create efficient bookkeeping and invoicing process.What are some common business expenses that are deducted on Schedule C?
There are three main categories of deductions on Schedule C. These include ordinary expenses, necessary expenses, and startup costs. Some examples of items that fit into these categories are listed below:- Advertising costs
- Cell phones
- Auto loan interest expense
- Legal and professional services
- Office supplies
- Meals and entertainment (subject to limitations)
- Insurance premiums
- Website design and development, and hosting services (up to $2500)
