Tips to Reduce Self-Employment Taxes
The new year is in full swing, with new resolutions, ambitious goals. There is plenty of dream-following going on, especially in the entrepreneurial world. Have you been thinking about taking the self-employment plunge or going into business for yourself? Self-employment is a great opportunity to be your own boss and to do something you love and are passionate about. The beginning of the year is a fantastic time to jump in, but there is a lot to think about before you make it official.
Becoming an entrepreneur and business owner brings a unique set of tax advantages and tax pitfalls that you need to consider. Paying your own FICA taxes and taking charge of your own retirement plan are just a few examples. Read more about our small business tax savings tips.
Here are five self-employment tax tips to be aware of
- Self-Employment Tax Surprise. This is a sneaky-but-important one. When you work for an employer, they pay half of your social security taxes and you pay the other half. However, when you become self-employed you pay it all – every dollar. You are now responsible for making both Social Security and Medicare payments (FICA taxes) through the self-employment tax.
- Pay your own “Withholding” through Quarterly Taxes. Unlike the times when you had taxes automatically withheld from your paycheck by your employer, the responsibility is now on your shoulders to pay “estimated tax” each quarter. You’ll need to make these quarterly estimated tax payments using Form 1040-ES which will cover your federal and state tax liabilities. Depending on the state you live and conduct business in, you may have to pay state taxes. Consult your accountant to determine what your federal and state tax bracket is in order to ensure that you’re paying the correct amounts each quarter. If you do not make quarterly tax payments you may be subject to penalties, interest and a big tax bill at the end of the year. No one wants that hanging over their head. So pay your taxes, it’s that simple.
- Get Yourself a Self-Employed Pension Plan! You’d like to retire someday, right? When you don’t have an employer taking care of things like benefits, it’s up to you to take charge of your retirement. Setting up a pension plan should be on the top of your entrepreneur “to-do” list. One benefit of self-employment is the ability to set up a tax-advantaged retirement plan. Possibilities include a Simplified Employee Pension (SEP), Simple IRA, or Simple 401k. Talk to your accountant about which plan is best for you, and determine how much you are comfortable contributing to these plans each month. Stick to it and never look back.
- Business Deductions… Enjoy! As a business owner you can deduct a wide range of business-related expenses, including rent or home office expenses, and the cost of equipment and supplies such as computers, cell phones, furniture, and utilities. Don’t get too crazy, though… you’ve got to be realistic. These expenses must be both accepted in your trade and helpful for your business. Some expenses might fall into both personal and business categories, but you can still deduct the business portion. You can also deduct expenses associated with your vehicle, using the standard mileage allowance to calculate your deduction.
- Health Insurance Costs – Deduct When You Can. You can also benefit from the health insurance deduction. This will allow you to deduct up to 100% of the cost of health insurance that you provide for yourself, your spouse, and your dependents. You can only deduct health insurance premiums if you are providing the insurance. If your partner’s employer offers health insurance, you are not qualified to deduct your health insurance premiums.
None of these pitfalls should scare you; avoiding them simply requires a little diligence, research, and preparation. The benefits of self-employment are plentiful, and well worth a few scheduled payments and filled out forms.