There are many perceived benefits that come from being your own boss. If you work for yourself, as an independent contractor, or you carry on a trade or business as a sole proprietor, you are generally considered to be self-employed (SE). Self-employment (SEM) can include work in addition to your regular full-time business activities, such as part-time work you do at home or in addition to your regular job.
Listed below are some key tax points that SE individuals need to understand.
If you are SE, you generally have to pay SEM tax as well as income tax. SEM tax is a Social Security and Medicare tax primarily for individuals who work for themselves. It is similar to the Social Security and Medicare taxes withheld from the pay of most wage earners. You figure SEM tax using a Form 1040 Schedule SE. Since you are SE, you essential are paying both the employer and employee share of this tax. Many SE are unaware that they need to pay the SEM taxes in addition to their income taxes, and thus find themselves owing substantial taxes to the IRS when they file their initial income tax return.
You can deduct half of your SEM tax in figuring your adjusted gross income.
You file an IRS Schedule C, Profit or Loss from Business, or C-EZ, Net Profit from Business, with your Form 1040.
If you are SE, you may have to make estimated tax payments. This applies even if you also have a full-time or part-time job and your employer withholds taxes from your wages. Estimated tax is the method used to pay tax on income that is not subject to withholding. If you fail to make quarterly payments, you may be penalized for underpayment at the end of the tax year.
You can deduct the costs of running your business. These costs are known as business expenses. These are costs you do not have to capitalize or include in the cost of goods sold but can deduct in the current year. You should consult with your tax advisor as to which SE costs are capitalized, amortizable, depreciable, or deductible.
To be deductible, a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your field of business. A necessary expense is one that is helpful and appropriate for your business. An expense does not have to be indispensable to be considered necessary.
Health care premiums paid by the business are not deductible by the business, but may be an adjustment to compute adjusted gross income on the SE person’s personal income tax return. While this reduces income taxes, it does not reduce the SEM taxes computed on Sch. SE of Form 1040. It the SE person is married and the spouse works for the business, consult with your tax advisor as to how you can deduct the health care premiums for both income and SEM taxes.