Tax is an amount of money that is contributed to the government and is used for public services such as road and highway construction, school buildings, and free health care services for the public. This amount of money is collected from companies, goods, property, and offices. Companies or businesses must pay a compulsory charge from their income or profits. On the other hand, the goods and materials that you see inside the grocery or on any shops have added tax too. A part of the price you have paid will be going to the government funds used for public expenditures. This can be a minefield for the self employed, so here are the tax facts you need to know:
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Self-Employed Individuals
An individual is considered self-employed if he or she is carrying a business or trade for himself or herself. Self-employed individuals can be a freelancer, independent contractor, or a person running a sole proprietorship business. These individuals do not apply for a specific employer who pays them a salary. Rather, they are individuals who are working for themselves and earning an income by either running a business or offering their services.
The number of self-employed individuals in the US is estimated to be 9.379 million as of November 2020, according to the US Bureau of Labor Statistics (BLS). If you're wondering if self-employed individuals are being taxed, then the answer is “YES!”. Self-employed individuals are required to file an annual return and pay tax quarterly. They must pay a self-employment tax (SE tax) as well as an income tax. The current self-employment tax rate is 15.3%. In this case, 12.4% is for social security, while the remaining 2.9% is for medicare.
If you're a self-employed individual, then here are some tax facts you have to know:
Self-Employment Tax
Traditional employees won't be paying self-employment tax since they split their part of social security and medicare with their respective employers. On the other hand, self-employed individuals, including, but not limited to, sole proprietors, partnerships, freelancers, and independent contractors, who earn income working for themselves, are expected to pay a self-employment tax. In this case, it doesn't matter if you work full-time or part-time. However, self-employed individuals who had a net earning of less than USD 400 are exempted from paying this self-employment tax.
Penalties
To avoid penalties for withholding too little, you need to estimate your social security and medicare accurately. For this purpose, you can use an automated record to help you stay organized. Furthermore, even if you're self-employed, you can still claim a deduction for insurance premiums that you're paying for your dependents and yourself. This way, you can make the most of your premises for medical and dental insurance premiums.
Quarterly Payments
In making your quarterly payments, you can use Estimated tax. ‘Form 1040-ES, Estimated Tax for Individuals' can be used to figure out the amount of the tax you have to pay or if you're required to file a quarterly estimated tax. In filling out these forms, you need the annual tax return of the prior year. Nevertheless, if it is your first time being self-employed, you will need to estimate your expected earnings for the year.
Tax Estimates
If your estimated earning turns out too high, then you can fill out another form which is the Form 1040-ES worksheet. This form will help you figure out your estimated tax for the next year. Again, if it is too low, you need to complete another Form 1040-ES worksheet to help you recalculate the next quarter's tax. It will help if you make quarterly estimated tax to avoid owing interest and tax penalty for underpayment if you settle an amount less than your actual tax due. Electronic Federal Tax payment can help you make your quarterly payments or you can also use TaxAct, which will calculate the amount of money you have to pay quarterly to the internal revenue service.
Tangible Tax Facts
One of the primary ways for you to save on taxes is to deduct your start-up cost, which includes legal fees and marketing costs from your tax bill if you recently started a new business. $25,000 can also be deducted from your vehicle expense in addition to mileage deduction reserved for travel expenses. Additionally, all necessary supplies and equipment that are used for your business can be deducted from your taxes as well. You can even write off half of your social security and medicare tax at the end of the year. If you’re self-employed, you can deduct healthcare costs for you and your family from your tax.
Retirement Contributions
When it comes to tax facts, this is one that you want to take note of. It will help if you consider increasing your contributions for retirement to ensure that you will have a comfortable life even without a regular source of income. In this case, you can open a profit-sharing plan for this. However, if you are to open one, ask a knowledgeable tax professional to guide you when it comes to the options that you can choose. You could amass USD 1 million in 37 years if you contribute the maximum and earn a 7% average annual return.
Home Office Deduction
Home office expenses are the cost of any workspace that you use regularly for your business. It is an exclusive area where you run your business, may it be rented or owned. In calculating your home office deductions you can either choose the standard method or the simplified method. In the standard method, you have to calculate the actual home office expenses and keep a detailed record in cases of an audit. Your home office must not be larger than 300 square feet if you want to use the simplified option, this option will let you multiply a determined rate by the IRS to your home office square footage.
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To ensure that self-employed individuals make the same contribution and receive the exact value of benefits as salaried individuals, self-employed persons need to pay a self-employment tax. The 15.3 percent may be shocking at first, but you should always remember that taxation is not only used for public goods and services. It is also essential for a social contract between the economy and the citizens of the country. Remember to pay your taxes promptly to avoid penalties.
