FAQ: Tax Law

What are Self-Employment Taxes?

A person is self-employed if he or she is a sole proprietor of a trade or business or an independent contractor. Independent contractors are people who do not work for an employer, but rather independently work in a trade, business or profession and offer their services to the general public. A person is also considered self-employed if he or she is a partner of a trade or business or is in any other way in business for him or herself, even on a part-time basis.

Self-employment tax is a Medicare and Social Security tax for taxpayers who work for themselves. If a taxpayer has net earnings of over $400 as a self-employed person or earns more than $108.28 as a church employee, he or she must pay self-employment tax. Taxpayers use a Schedule SE (Form 1040) to figure out the self-employment tax that they owe.

When an individual is employed by somebody else, he or she has a certain amount of money deducted from his or her paycheck for Social Security and Medicare. Employees only pay one-half of the total employment tax, while the employer pays the other half. However, when an individual is self-employed, he or she is both the employer and the employee. Thus, a self-employed individual has to pay both parts of that whole tax. However, a self-employed individual can deduct half of it when calculating adjusted gross income on Form 1040.

The self-employment tax rate is 15.3%. Of that 15.3%, 12.4% is for Social Security and 2.9% is for Medicare. For the 2007 tax year, the maximum amount of income (including wages, tips and net earnings) subject to the Social Security portion of the self-employment tax is $97,500. If you earn more than that, you will not owe any more Social Security tax for that year. However, there is no cap on the Medicare portion of the self-employment tax.

Self-employed individuals can use Schedule C or Schedule C-EZ (if business expenses do not exceed $2,500) for possible deductions for the following business expenses:

  • Business transportation expenses
  • Section 179 expenses
  • Employee benefits programs, including a pension or profit-sharing plan.
  • Insurance other than health insurance.
  • Mortgage interest
  • Legal and other professional services
  • Office expenses
  • Rent or lease of vehicles, machines, equipment and other business property
  • Business-related travel, meals and entertainment expenses

Self-employed individuals should estimate their taxes and put money aside to pay them, using Form 1040-ES and its instructions for estimating payments to help figure out how much they should set aside. Generally, self-employed individuals pay estimated taxes four times a year. The first payment due is due on April 15th. The subsequent payments must be made on the first business day after the next June 15th, September 15th and January 15th.

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