USA: Special tax considerations for self-employed individuals

Filing income taxes when you are self-employed can present a different set of considerations and challenges than working for an employer. Planning ahead and staying organized will help you stay on top of your tax responsibilities while you build your business. MSI's Ohio accounting member Corrigan Krause provides further insight.

Am I considered self-employed?

The IRS has three different categories for self-employed individuals:

• Sole proprietor or independent contractor of a trade or business
• Member of a partnership that carries on a trade or business
• You are in business for yourself – this includes any part-time business

If you fall under any of the three categories above, you are considered self-employed.

What is self-employment tax?

When you are self-employed or freelancing, there is no automatic withholding when you earn money, so you must take all tax responsibilities into account when planning your finances for the year. This includes accounting for your tax responsibilities when you’re setting the pricing for your goods and/or services.

Since there is not automatic withholding happening to cover Social Security and Medicare taxes and you are not splitting the responsibility with an employer, you are responsible for the full 15.3% for these programs. This amount is referred to as self-employment tax. Currently, 12.4% goes toward Social Security and 2.9% goes to Medicare. Keep in mind that only the first $147,000 earned in a year (wages, tips, net earnings) are subject to the 12.4% Social Security tax, however all wages are subject to the Medicare tax.

You must pay the self-employment tax if your net earnings are $400 or more (excluding church employee income) or you have church employee income of $108.28 or more.

How do I file my taxes if I’m self-employed?

It’s important to estimate what your self-employment tax responsibilities will be for the year. The IRS has an online estimator tool you can use. You can also use a simple equation:

• To estimate your net profit or loss, subtract your business expenses from your business income.
  • If your expenses are less than your income, that is your net profit
  • If your expenses are more than your income, that is your net loss

Now that you have your net profit or loss, you can apply the self-employment tax rate discussed above to get your self-employment tax responsibility. This is not, however, your only tax responsibility. There may be additional state or local taxes that apply to you.

If your earnings were over $400, you need to file a Schedule C (Form 1040). If your estimated self-employment tax responsibility exceeds $1,000, the IRS expects you to make quarterly payments. Use IRS Form 1040-ES to file these payments, as it includes vouchers. You can also pay online using the Electronic Federal Tax Payment System (EFTPS). If this is your first year being self-employed, here’s more information on paying your estimated tax responsibility.

If your earnings were under $400 or you operated under a net loss, you still need to file a Schedule C (Form 1040), if you meet one of these standards:

• Your primary purpose for engaging in the activity is for income or profit.
• You are involved in the activity with continuity and regularity.

Can I reduce the taxes I owe?

There are certain deductions or write-offs available to self-employed individuals that can alleviate some of the tax responsibility. Here are some of the most common deductions:

• Home office
  • You may be able to deduct a portion of your rent, mortgage or other household expenses if a portion of your home is used exclusively and regularly for business-related activities. Read more about the specifics of a home office deduction here.
• Education
  • If you decide to further your education to better your business, you may be able to deduct the cost of things like tuition, books, fees, and other class-related expenses. Read more about what qualifies here.
• Mileage
  • If you travel for your business, keep a log of those mile all year. At the end of the year, use the current mileage deduction (56 cents per mile in 2021) to calculate your deduction. There are other opportunities to make deductions based on your vehicle use that you can read about here.
• Self-employment tax
  • You read that right. You can deduct some of your self-employment tax responsibility as a business expense. You are expected to pay your full tax responsibility, but when you file your return, you can deduct half of what you paid.
• Cell phone/internet costs
  • If you have a dedicated line or cell phone for your business, you can deduct your entire bill. If you don’t have a dedicated line, you can deduct the percentage of your usage from your bill.

We’re here to help

The professionals at Corrigan Krause can help you navigate the different tax opportunities and responsibilities you may have.

About Corrigan Krause CPAs and Consultants - Cleveland

Corrigan Krause CPAs and Consultants is a team of dedicated, passionate, experienced professionals who provide comprehensive consulting, tax and accounting services. With a growing team of more than 80 members, our firm has proudly served individuals and privately-held businesses since 1989. We are headquartered in Westlake, Ohio with two additional offices in Medina and Mayfield Heights, Ohio.

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