- What are self-employment taxes?
- Who must pay self employment taxes?
- Did you know there are two separate self employment taxes?
- What earnings are subject to self employment tax?
- The ins and outs of paying self employment taxes
- What you need to know about filing your tax return
- Super handy tool: The self-employment tax calculator!
- Have we taken the mystery out of self employment taxes?
Even though most people who are self employed really love it, there are some things that they also hate about it — most notably, self employment taxes. However, learning how to use a self employment tax calculator can be incredibly beneficial to you.
Self employment taxes may be unclear to you if you haven’t done a lot of research into the topic, so we’ve taken the time to break it all down to help you with your taxes.
Hopefully, the information below will help you better understand what your requirements are when it comes to using a self employment tax calculator while still being your own boss.
Let’s start with the basics, shall we?
Before we dive into some of the more complicated aspects of self-employment taxes, and how to use a self employment tax calculator, let’s cover the basics.
What are self-employment taxes?
Anyone working in the private sector must pay taxes in order to support the Social Security and Medicare systems, whether you’re an employee or you’re self employed.
Once you reach retirement age, you’ll be able to reap the benefits of this taxation, as you’ll be allowed to collect Social Security and Medicare benefits if you paid into those systems for at least 10 years. Not such a bad deal, right?
But here’s where things start to change a bit for those who are self employed: when you’re an employee, you don’t have to worry much about paying your Social Security and Medicare taxes because your employer will deduct those taxes from your paycheck and then pay the IRS.
And, on top of that, employers also have to make matching contributions. In other words, employees are paying half of the total tax, thanks to the help that they get from their employers. These taxes are often referred to as “FICA” or payroll taxes.
When you’re self employed, clients and customers don’t pay any part of your Social Security and Medicare taxes, and taxes aren’t automatically withheld from the pay that you receive from them. This means that you must pay 100% of all of these taxes yourself. Bummer!
As someone who’s self employed, it’s up to you to calculate how much you owe in the form of “self-employment” taxes, and then you have to pay those taxes on time to the IRS, along with your federal income taxes.
Note: Self employment taxes are entirely separate from federal income taxes. Many individuals who are self-employed pay more in self employment taxes than they do in income taxes.
Who must pay self employment taxes?
The majority of people who are self employed are sole proprietors. This means that they personally own their business and all of its assets.
And it also means that they must use a self employment tax calculator and pay self employment taxes if their net earnings for the year are $400 or more.
But, wait, what does “net earnings” mean? Well, net self employment earnings refers to the profit that you earned from your business after you deducted expenses and a special deduction for half of your self employment taxes (more on that below).
What if you’re a partnership or LLC? The $400 threshold also applies if you’ve formed a partnership or an LLC (limited liability company) to own and operate your business. Just keep in mind that if you’re a one-owner LLC, you’ll still be taxed as a sole proprietor.
And what if you’ve incorporated your business? Great question! In that case, you’ll ordinarily work as the company’s employee, so you’ll be paid a salary like any other employee, and you won’t pay self employment taxes on your salary.
This also means that your corporation must withhold half of your Social Security and Medicare taxes from your salary, as well as pay the other half like any employer would.
Did you know there are two separate self employment taxes?
Okay, now that we’ve covered the basics, let’s dive a little deeper into all things related to self employment taxes. Ready?
First off, you should be aware that self employment taxes consist of two separate taxes: Social Security tax and Medicare tax.
Each of these two taxes has its own rates. When combined, though, the total is a 15.3% tax, up to an annual income ceiling. However, the “effective” tax rate is somewhat lower because of certain deductions. We know, it can seem complicated, but you’ll get the hang of things in no time.
Social security tax
Here’s what you need to know about the Social Security tax:
- It consists of a flat 12.4% tax, up to an annual income ceiling.
- Net self employment earnings (or employee wage income) over the ceiling aren’t subject to this tax (if the ceiling didn’t exist, people with higher incomes would end up paying far more than they could ever get back as Social Security benefits).
- The tax ceiling is adjusted annually to account for wage growth. For example, in 2018, the ceiling was $128,400, so if you had this much or more in net self employment earnings, you’d pay $15,922 in Social Security taxes. For 2019, the ceiling will be raised by $4,500 to $132,900. You can find the ceiling amount for any year at the Social Security Administration website.
- If you work as an employee in addition to having your own business, your employee wages are counted towards the Social Security ceiling first. So if your wages exceed the ceiling, you won’t owe any Social Security tax on your self employment income. Nice!
Next up is Medicare tax:
- Everyone must pay a 2.9% Medicare tax on net self employment earnings up to an annual ceiling.
- The annual ceiling is $200,000 for single taxpayers. It’s $250,000 for married couples filing jointly, and it’s $125,000 for married couples filing singly.
- Individuals who earn more than the ceiling must pay a 3.8% tax on income that exceeds the ceiling, so this income would be subject to an additional 0.9% tax.
Charts are always helpful, right? Check out these charts on Medicare tax for some additional clarity:
Medicare Tax Rates for Married Couples Filing Jointly
|Net Self Employment Earnings||Medicare Tax Rate|
|Up to $250,000||2.9%|
|All over $250,000||3.8%|
Medicare Tax Rates for Singles
|Net Self Employment Earnings||Medicare Tax Rate|
|Up to $200,000||2.9%|
|All over $200,000||3.8%|
What earnings are subject to self employment tax?
When you sit down to work on your self employment tax calculator, remember: you pay self employment taxes on your net self employment earnings, not your entire income. And your net self employment income includes all income from your business, minus all business deductions allowed for income tax purposes.
- Are you a sole proprietor? Then you can use IRS Schedule C, Profit or Loss From Business to determine your net self employment income.
Schedule C is the tax form that sole proprietors use to report their business income and expenses. You basically subtract your expenses from all of your self employment income to calculate the net self employment income.
Pro tip: Accounting software, such as FreshBooks and Bonsai, is a smart investment because it can serve as a self employed tax calculator by calculating your net self employment income quickly and easily. You can also use BetterLegal to quickly get your freelance business all set up and ready to go.
- Do you have more than one business? Then combine the net income or loss from all of them.
- Do you have a job, in addition to your business? Then your employee income isn’t included in your self employment income.
- Do you have investment income, such as interest that you’ve earned on your savings? You don’t include this in your self employment income either.
Make sense so far? Great!
When you’re self employed, you get one more valuable deduction before determining your net self employment earnings: you get to subtract, from your net self employment income, half of the self employment tax to determine your net self employment earnings. This is intended to help ease the tax burden on the self employed.
To do this, multiply your net self employment income by 92.35%, or 0.9235. (Half the 15.3% self-employment tax is 7.65%, and 100% – 7.65% = 92.35%.)
Let’s use an example to illustrate this, in case it’s getting confusing:
Brandon is a self employed consultant who earned $120,000 from his business. He had $20,000 in business expenses. Therefore, his net self employment income was $100,000.
Brandon would multiply the $100,000 by 0.9235 to figure out what his net self employment earnings are. The math would come out to $92,350. This is the amount on which he must pay self employment tax.
The double value of business tax deductions
Business tax deductions are doubly valuable. They not only reduce your income taxes, but they also help reduce your self-employment taxes as well. Woohoo!
Bear in mind that income tax rates range from 10-37%. So, when you add that to the top 15.3% self employment tax rate, you can see just how helpful tax deductions can be when it comes to saving money.
It’s wise to claim all of the business deductions that you’re entitled to every year. And the best part is that you can deduct almost all of the expenses that you incur in order to operate your business, such as:
- Advertising costs (think: the cost of an online ad, the cost of a brochure, or the cost of your business website)
- Attorney fees
- Accounting fees
- Bank fees for your business bank account
- Business start-up costs
- Car and truck expenses
- The costs of renting or leasing vehicles, machinery, equipment, and other property used in your business
- The cost of business equipment and other property, such as a photocopier or computer, and the cost of repairs on any of that property
- Education expenses, such as the cost of attending professional seminars or classes required to keep your license
- Expenses for business use of your home
- Fees that you pay to other self employed workers you’ve hired
- Business insurance costs
- Interest on business loans and debts
- License fees (think: fees for a local business license or an occupational license)
- Office expenses, including office supplies
- Professional association dues
- Software costs
- Subscriptions for professional or business publications
- Business travel and meals
To make the most of these deductions, carefully track all of your business expenses so that you can document them properly.
The ins and outs of paying self employment taxes
As mentioned above, when you’re self employed, you don’t have an employer who will withhold your Social Security, Medicare, and income taxes from your pay and then send that money to the IRS on your behalf.
No money will be withheld from compensation that you receive, so you have to pay all of the taxes yourself after using a self employment tax calculator to figure out how much you owe.
You aren’t supposed to wait until April 15 to pay your taxes in one lump sum. Instead, those who are self-employed ordinarily make four quarterly tax payments throughout the year.
These are referred to as estimated taxes, and each estimated tax payment includes your self employment taxes and income taxes. Easy enough!
If you expect to owe at least $1,000 in federal tax for the year, you must pay estimated taxes. Again, you pay these throughout the year, in four installments, with the first one due on April 15. Here’s another helpful chart to illustrate this:
|Income received for the period:||Estimated tax due:|
|January 1 through March 31||April 15|
|April 1 through May 31||June 15|
|June 1 through August 31||September 15|
|September 1 through December 31||January 15 of following year|
How do you calculate how much estimated self employment tax you should pay? Well, you have two options:
- Pay the same amount in tax that you paid the previous year
- Estimate what your income will be this year, and base your tax payments on that
Paying these estimated taxes is easy, as you can do so by an electronic funds withdrawal from your bank account, or you could also pay by credit card or by mailing in a check.
It’s smart to set aside the money that you’ll need to cover your income and self employment taxes. You can do this whenever you receive compensation from clients and customers.
Failing to do this could result in you having a big tax bill without any means to pay for it. Talk about stressful!
Note: If you end up paying too little in estimated taxes during the year, you’ll have to pay an underpayment penalty when you file your annual income tax return.
Want more information on how to calculate and make your estimated tax payments? Check out IRS Publication 505, Tax Withholding and Estimated Tax.
What you need to know about filing your tax return
When you’re ready to file your annual income tax return, don’t forget to include IRS Form SE, Self-Employment Tax. This is the form that will show the IRS how much self employment tax you’re required to pay for the year.
Side note: Only file one Form SE, no matter how many unincorporated businesses you own.
To calculate your total tax, just add the self employment taxes to your income taxes on your income tax return, Form 1040.
Side note #2: Even if you don’t owe any income tax, you must complete Form 1040 and Form SE if you owe $400 or more in self employment taxes.
Super handy tool: The self-employment tax calculator!
If you’re feeling frazzled about calculating your self employment taxes, you aren’t alone. For a lot of people, the math can get confusing pretty quickly, and you might be concerned about performing your calculations perfectly.
Beyond a self employment tax calculator that you can find online, there’s tax preparation software that will also calculate these taxes for you. Sweet!
But what if you want to figure it out for yourself, using nothing more than a calculator? Here’s a step-by-step breakdown.
1. Compute your net income from self employment (this is shown on IRS Schedule C).
2. Multiply the amount from Step 1 by 92.35%. The total is your net earnings from self employment.
3. Compute your Social Security tax by multiplying 12.4% by the lesser of:
- your net earnings from self employment (from Step 2) or
- the Social Security tax ceiling ($128,400 for 2018)
4. Compute your basic Medicare tax by multiplying your net earnings from self employment (from Step 2) by 2.9%.
5. Compute any additional Medicare tax due by multiplying 0.9% by:
- any net earnings from self employment over $200,000 (from Step 2) if you’re single, or
- any net earnings from self employment over $250,000 (from Step 2) if you’re married filing jointly ($125,000 if you’re married filed separately).
Here’s an example to help clear things up further:
Amy was self employed during 2018 and earned a total of $120,000. These are her steps for using the self employment tax calculator:
- Step 1: She subtracts, from her $120,000 in total self employment income, all of her business deductions, which were $20,000. This leaves her with $100,000 in net self employment income.
- Step 2: She multiplies her $100,000 in net self employment income by 92.35%, leaving $92,350. This is her net earnings from self employment.
- Step 3: To determine her Social Security tax, she multiplies $92,350 by 12.4%. Her Social Security tax is $11,451.
- Step 4: She computes her Medicare tax by multiplying her $92,350 in net earnings from self employment by 2.9%, resulting in a $2,678 tax.
- Step 5: She owes no additional Medicare tax because her earnings were under $200,000 (she’s a single taxpayer).
In total, Amy’s 2018 self employment taxes are $14,129. This is the total from steps 3 and 4. She gets to deduct 50% of this amount, $7,065, as an income tax deduction on her Form 1040. And she’s done!
Have we taken the mystery out of self employment taxes?
Sure, self employment taxes might seem daunting at first, and you might be flat-out puzzled by what you owe, when you need to pay, and how to figure out if you’re paying the correct amount.
We hope the information above has helped clarify the most important points so that you can go forth with greater confidence and be the self employed superstar that you are!
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