Self-employment is a great way to be your own boss and reap the rewards of your hard work and dedication. But there are some costs that come with this freedom. The biggest of these is taxes. Learn some tips on how to calculate self-employment tax now.
If you are self-employed, you are responsible for paying both your own federal income tax and your state income tax. This can be a real drain on your finances if you don’t understand how it works. To help make things simpler, we have put together this helpful guide on calculating your self-employment tax.
What it Means to Be Self-Employed
When you are self-employed, you are responsible for paying your own taxes. This is a big difference from working for an employer, who typically pays half of your taxes and deducts them from your paycheck.
With self-employment, you have to pay both your employee and employer taxes—your employee tax rate is based on how much money you make as an employee, but your employer tax rate is based on how much money you make as an employer. The difference between these two rates is called the self-employment tax. Earning a self-employment income can be terrific when you do it responsibly and take off the tax properly. Let’s learn about this now!
Types of Self-Employment
If you are self-employed, you should be aware of the different types of self-employment and how they impact your taxes. There are three different types of self-employment: independent contractors, sole proprietors, and partnerships.
Independent Contractors
Independent contractors are those who provide services to customers, but they do not receive benefits from the company that hires them. An independent contractor is hired by a company to do a job and is paid by the hour, project, or other units of time. An example of this would be if you were a plumber and you had your own plumbing company. You would not be considered an employee of the company that hired you, but rather an independent contractor. Because of this, it’s your responsibility to pay your own taxes on any self-employment income earned from those jobs.
Sole Proprietors
A sole proprietorship is a business where one person owns all assets, assumes all liabilities, and receives all profits from their work. The owner is also responsible for paying all the business’s expenses and taxes. The business itself is considered separate from its owner—it has its own bank account and files its own tax returns.
Partnerships
A partnership is when two or more people join to form a business that is owned by all its members. Each partner has their own set of responsibilities within the company, but they are all equally responsible for paying taxes on all profits from the company. If you have a partner in your business, you will need to file jointly as a partnership, which means both partners will need to report their share of income on their personal tax returns. Partnerships can be either general (where each member contributes capital) or limited (where only one member contributes capital).
Advantages of Self-Employment
Self-employment is a great way to establish yourself as a business owner, allowing you to make more money and have more control over your career. While self-employment comes with its own set of challenges, it also has many advantages.
Here are some of the most important benefits of self-employment:
Be Your Own Boss
One of the biggest benefits of being self-employed is that you don’t have to answer to anyone. You get to decide what you do and when you do it—all without answering to anyone else.
You have complete control over your own finances and business decisions and can make as much money as you want—there are no limits! The freedom that comes with being your own boss is priceless and worth every penny!
Pursue Your Passion
The best part about being self-employed is that you get to do what you love and make money at it! You don’t have to be a genius to succeed as a freelancer—just find something that you are passionate about and people will pay you for it. If you truly love doing something, then the hard work will not seem like work at all.
Choose Your Schedule
This is by far the biggest advantage of being self-employed. Employees are usually limited by the number of hours they can work per week. But if you are self-employed, you set your own schedule, so you can work in the middle of the night if that is when you are most productive. Learn how to streamline your business processes easier from articles on our website.
You have the freedom to take time off when you need it, and you don’t have to worry about being fired or laid off. It is also nice to be able to spend time with your family without worrying about taking a vacation day.
However, you will have to be more organized than if you worked a traditional job, but that is part of being self-employed.
Self-Employment Tax: Social Security & Medicare Taxes
You have probably heard the term “self-employment tax” before, but you may not know exactly what it means.
The concept is pretty simple—it’s basically a tax on your income from self-employment. That includes things like your business profits, but also any investment income from businesses you own. When you pay self-employment taxes a portion of this goes towards general health and social programs. Specifically, the money goes toward funding Social Security and Medicare taxes.
You will pay this tax to the IRS, and it is in addition to any income taxes you owe. The good news is that you can deduct half of your self-employment taxes if you are using the standard deduction on your taxes (this means that instead of itemizing your deductions, you will just use the standard deduction).
If you are not using the standard deduction, then you will have to itemize your deductions, which means that instead of taking the standard deduction, you will need to list out all your expenses and deductions. You can only deduct expenses incurred during the year—not money spent in previous years.
Self-Employment Tax Rate
If you are self-employed, you must pay both the employee and employer portion of Social Security and Medicare taxes. The self-employment tax rate is 15.3%—12.4% Social Security plus 2.9% Medicare—which equals the same amount that an employer would pay on your behalf if you were working for them full time instead of being self-employed. This can be based on your net earnings.
How to Calculate Self-Employment Tax
The self-employment tax is a special type of tax that you pay as an employee of your own company. It’s calculated differently than the regular income tax, so it’s still important to keep track of it so you know how much is due each year.
If you are self-employed and have never paid this tax before, it can be confusing to figure out how much you owe—but don’t worry! We have got some helpful tips for calculating your self-employment taxes.
Calculating Your Self-Employment Tax
Self-employment tax is calculated based on a combination of your income from freelancing and any business expenses that are deductible from the total amount of money you earn. This means that if you have expenses that exceed your income, they can be deducted from your taxable income, which will lower your overall tax burden. Here is how it works:
First, figure out how much money you made as a freelancer during the year by adding up all your freelance income and subtracting any expenses related to running your business. Then multiply this number by 0.9235 to get your net income (the amount of money you actually earned).
Next, look at any deductions or credits that might apply to your situation. For example, if you are married and file jointly with another spouse who earns money from another job, then there might be an additional deduction for “joint filing.”
Finally, add up all these numbers together and multiply them by 0.15
How to Pay Self-Employment Tax
If you are self-employed, you are probably wondering how to pay self-employment tax. Here is a quick guide:
- You need to make sure you have a Social Security number.
- Find out how much money you made during the year and what your total expenses were.
- Add up your income from all sources (not just self-employment). This number should be used for the Self-Employment Tax Worksheet as well as Line 37 of Form 1040 Schedule SE (Form 1040), Self-Employment Tax.
- Fill out Form 1040 Schedule SE (Form 1040), Self-Employment Tax, and figure out your self-employment tax liability.
- Submit Form 1040 Schedule SE (Form 1040), Self-Employment Tax, along with Form 1040 when you file your tax return!
The Bottom Line on Taxes For the Self-Employed
If you are self-employed, it’s important to keep track of your income and expenses so that you can plan for taxes throughout the year.
Self-employment taxes are a challenge for any freelancer or entrepreneur but understanding how self-employment tax works can help make things a little easier. Reach out to an accountant if you need help calculating your self-employment tax or other taxes. They will be able to get you the proper forms and help you navigate these tricky waters.
If you’re still wondering how income taxes, finances, and running a business works, check out these other helpful articles and guides!
