Most people who work for an employer have their taxes automatically withheld from their paycheck. This makes life much easier when it comes time to file taxes because you don’t need to worry about filing estimated taxes or sending in any paperwork. You just wait for your W-2 to arrive in January, then you file your taxes with the IRS.
The taxes your employer withholds from your paycheck cover your income taxes and your FICA (Federal Insurance Contributions Act) taxes: Social Security tax and Medicare tax. Your employer is also nice enough to pick up half the bill for those two programs (OK, they are required to, otherwise they probably wouldn’t!).
However, if you have self employment income, you are subject to SECA tax (Self-Employment Contributions Act), which is similar to FICA taxes. That means your are on the hook for the entire Social Security and Medicare tax bill. Why? Because when you are self employed, you are basically the employer and the employee and you don’t have someone paying your half of the tax bill.
Who has to pay self employment tax?
The IRS considers you self employed if you are a sole proprietor, an independent contractor, a partner in a partnership, a member of a single-member LLC or are otherwise in business for yourself. You generally have to pay self employment tax if you earn more than $400 of self-employment income, or earn more than $108.28 as a church employee. Basically, you are required to pay self employment tax if you work for yourself and someone else does not pay your tax Social Security or Medicare tax.
How much is self employment tax?
The self employment tax rate is 15.3%, and consists of two parts: 12.4% for Social Security and 2.9% for Medicare.
- Social Security Tax. Only your first $106,800 of combined wages, tips, and net earnings is subjected to the 12.4% Social Security tax.
- Medicare Tax. All income is subjected to the 2.9% Medicare tax.
Easy self employment tax formula. Social Security taxes are only assessed on incomes of $106,800 and less, so if you fall under that threshold, simply multiply your income by 15.3% (12.4% + 2.9%). If your income is greater than $106,800, multiply your income by 2.9% (to cover your Medicare tax), and add $13,243.20 (max Social Security tax).
How to pay self employment taxes
You will report your self employment taxes in the “Other Taxes” section of Form 1040 when you file your tax return at the end of the year. However, depending on how much you earn, you may need to pay estimated taxes to make sure you are within IRS rules – or you may be subject to underpayment penalties.
Additional self employment tax tips
Self-employment tax deduction. You can deduct half of your self employment tax before applying the tax rate when calculating the amount of self employment tax you owe. For example, if you earn $100,000 from self-employment, you report that amount as income on Form 1040. However, you can deduct 7.65% from that number when figuring how much self employment tax to pay. Thus, you will only pay self employment taxes on $92,350, saving you $1,170 on self employment tax ($7,650 x 15.3%). This deduction is available whether or not you itemize.
Self employment tax is in addition to regular income taxes. When you are doing your tax planning, don’t forget to consider your normal tax rates. You will be required to pay your normal state and federal income tax in addition to self employment tax.
Consider hiring a professional
I’m a big believer in doing things myself. However, taxes are one time when I am not afraid to spend some money for the peace of mind to know that everything was done correctly and I have maximized my return or minimized my tax bill. This information is intended as a resource only and I recommend consulting with an account or IRS documentation for information specific to your needs.
Additional IRS Resources:
- Self-employment tax.
- Topic 554 – Self-Employment Tax.
- IRS Form 1040-ES.
- Tax Calendar for Small Businesses and Self-Employed.
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