Credit Karma Guide to Self-Employment Taxes

Credit Karma Guide to Self-Employment Taxes

Credit Karma Guide to Self-Employment Taxes


Being your own boss can be an amazing experience, but working as a freelancer or small-business owner may also make filing your taxes more complex. That’s because in addition to calculating and paying income tax, you are also responsible for paying self-employment taxes.


What are self-employment taxes? Do you have to pay them?

In this guide, we’ll provide information about self-employment taxes, including who needs to pay them, how they’re calculated, and how to report and pay these often-misunderstood taxes.


What are self-employment taxes?

When an employer pays you, they calculate and deduct your share of Social Security and Medicare taxes, as well as state and federal income taxes, from your wages. They pay your share and theirs directly to the government. You’re not required to calculate or submit those taxes on your own.

However, if you’re self-employed, the clients or customers who provide your income aren’t required to calculate or deduct any taxes. You’ll have to do it yourself.

That’s self-employment tax.

The two separate taxes that comprise self-employment tax are known as FICA taxes:

  1. Social Security Tax. The Social Security tax is 12.4 percent of your self-employment net earnings up to the Social Security wage base, which is adjusted annually for inflation. For 2017, the Social Security wage base is $127,200. Any amount you make over the Social Security wage base is exempt from this tax. For 2018, the wage base will increase to $128,400, but the tax rate will remain the same.
  2. Medicare Tax. The Medicare tax is 2.9 percent of your self-employment earnings. There is no cap on the amount of income that is subject to the Medicare portion of the self-employment tax.

When employees have these taxes withheld from their paychecks, half of the rate shown above is withheld from the employee’s pay and the employer pays the other half. Because you don’t have an employer to share the burden of your taxes, you can report half your self-employment tax as an adjustment to your taxable income.

In addition to the Medicare tax rate shown above, high-income earners are responsible for paying an Additional Medicare Tax of 0.9 percent as part of the Affordable Care Act. This tax applies to income above the following thresholds:

Filing Status Threshold
Married filing jointly $250,000
Married filing separate $125,000
Single $200,000
Head of household w/qualifying person $200,000
Qualifying widow(er) w/dependent child $200,000

If you made at least $400 in self-employment income, you’ll need to pay self-employment taxes.

“Essentially, if you work for someone and are paid without taxes being withdrawn by the person or company, it will be subject to self-employment tax,” says Richard M. Prinzi, CPA and co-founder of F-Sharp Tax Management Services in New York, New York.

Self-employment income is typically any income paid to a nonemployee, including independent contractors, freelancers and sole proprietors.

Generally, any income for which you receive a Form 1099-MISC with an amount in Box 7, Nonemployee compensation, is self-employment income. However, you cannot rely on 1099-MISC forms to calculate your self-employment income, as companies are not required to send you a 1099-MISC unless they paid you at least $600 during the calendar year. Also, companies sometimes ignore their 1099-MISC filing requirement. That means you could have self-employment income that you didn’t receive a 1099-MISC for.

Regardless of whether you receive Form 1099-MISC, self-employment income of $400 or more is subject to self-employment tax. If you meet the criteria, you’re required to pay self-employment taxes regardless of your age, even if you’re currently receiving Social Security benefits.

How is self-employment tax calculated?

The good news is self-employment tax is calculated based on “net earnings from self-employment,” rather than gross earnings. To calculate your net earnings, subtract your business expenses from your business revenues.

Wondering what expenses you can deduct? Prinzi says expenses are typically industry specific. To get an idea of what your deductions are, he recommends seeking the advice of a CPA with experience filing tax returns for people in your industry.

Once you’ve deducted your business expenses from your gross income, if the result is less than the Social Security wage base of $127,200 ($128,400 for 2018), the calculation is simple. If your net income is greater than the Social Security wage base, your calculation will have a few additional steps. We’ll show you how to calculate either way.

If your net income from self-employment is less than the Social Security wage base

1. Figure out the amount of your net earnings that is subject to the self-employment tax.

Let’s say your net earnings from self-employment were $80,000 for 2017. To find the taxable amount, multiply $80,000 by 92.35 percent to arrive at $73,880.

Why 92.35 percent of net earnings, rather than a full 100 percent? Because if you were paid by an employer, they could deduct their share of your FICA taxes (7.65 percent) as a business expense. So you effectively get to do the same by using just 92.35 percent of your net self-employment earnings as your base to calculate your self-employment taxes.

2. Calculate the amount you owe for self-employment taxes.

Next, multiply your self-employment taxable income ($73,880) by 15.3 percent, to arrive at your self-employment tax burden: $11,304 (rounded because the IRS gives you the option of rounding off cents to whole dollars on your return and schedules).

If your net income from self-employment is greater than the Social Security wage base

1. Figure out the amount of your net earnings that is subject to the self-employment tax.

Let’s say your net earnings from self-employment were $150,000 for 2017. Only $127,200 of your earnings are subject to Social Security tax, so we have to add an extra step in the calculation.

Social Security Medicare
“Adjusted” earnings $127,200 $150,000
Less: self-employment adjustment (x 92.35 percent) 0 (11,475)
Taxable self-employment earnings $127,200 $138,525

 

You’ll note that when your net earnings are more than the Social Security wage base, we no longer multiply Social Security by the self-employment adjustment of 92.35 percent. This is because the limit to the Social Security wage base applies only after subtracting the 7.65 percent employer contribution.

2. Calculate the amount you owe for self-employment taxes.

Next, multiply your taxable self-employment earnings by the individual rates for Social Security (12.4 percent) and Medicare (2.9 percent).

Social Security Medicare
Taxable self-employment earnings $127,200 $138,525
x Tax rate (12.4 percent SS, 2.9 percent Medicare) $15,773 $4,017

Total self-employment tax ($15,773 + $4,017) = $19,790

If your self-employment income is more than the threshold for the Additional Medicare Tax, you’ll also have to multiply the income over the threshold by 0.9 percent.

Keep in mind that if you have another job and have Social Security taxes withheld from your salary, you get credit for that in your self-employment tax calculation. For instance, if you have a full-time job earning $127,200 per year, you may already have the maximum Social Security tax withheld. So, if you earned some additional income driving for Uber, you would only need to calculate the Medicare portion of your self-employment tax.

How do I report self-employment taxes?

According to IRS instructions, Schedule SE is used to calculate self-employment tax, but since we already calculated the numbers above, we’ll just tell you where the final numbers go on Form 1040.

Once you’ve calculated your self-employment taxes on Schedule SE, that figure goes on Page 2 of Form 1040 on Line 57 (Self-employment tax), in the “Other Taxes” section.

But you’re not quite done. As mentioned above, when an employee gets a paycheck, the employer withholds half of the total FICA taxes due from the employee’s pay, and the employer pays the other half.

To get the same effect, tax law allows self-employed people to report half their total self-employment tax as an adjustment to their adjusted gross income. The IRS considers this to be the equivalent of an employer paying half of your FICA taxes for you.

So, take the calculated self-employment tax from Step 2 above and divide it in half. This number goes on Page 1 of Form 1040, Line 27 (Deductible part of self-employment tax), in the “Adjusted Gross Income” section.

Watch out, though — you cannot deduct the 0.9 percent Additional Medicare Tax.

When do I pay self-employment taxes?

Schedule SE is filed along with your individual tax return, Form 1040, which is generally due on April 15 of the following year or Oct. 15 if you file for an extension. However, that’s not when your self-employment taxes are due.

Because an employer is not withholding and paying income tax, Social Security or Medicare on your behalf throughout the year, you’re required to make estimated quarterly payments.

Use the worksheet included with Form 1040-ES to calculate your estimated income tax. This involves estimating your adjusted gross income, itemized deductions (if you’re not using the standard deduction), credits and exemptions, and then calculating your tax using tax rate tables included in Form 1040-ES.

The self-employment tax figure calculated above is added to your estimated income tax. In most cases, if you expect to owe at least $1,000 in tax for the year after you’ve subtracted withholdings and refundable credits, and do not have enough withholdings from another job to cover your estimated taxes, you must make estimated payments.

You can make estimated payments in four equal installments, due on the 15th of the month in April, June and September of the first three quarters of the year, and in January of the following calendar year for the final quarter. (Those due dates shift to the following business day if the 15th falls on a weekend or holiday.)

How do I pay self-employment taxes?

For many people, the easiest way to pay their estimated self-employment taxes is online. IRS Direct Pay allows you to make a payment directly from your checking or savings account, free of charge.

If you’d rather pay with a debit or credit card, your payment is processed by a third-party payment processor, who will charge a processing fee ranging from 1.87 percent to 2 percent, subject to a minimum fee ranging from $2.25 to $3.95.

You can also choose to mail a check, along with a voucher included in Form 1040-ES. The address to which you’ll mail your payment depends on your state of residence and is also included on Form 1040-ES.

If you make your estimated payment by mail, make sure it is postmarked by the due date. It’s also a good idea to send your payment via certified mail and keep the mailing receipt. If your payment is delayed or lost in the mail, the receipt can be used to get any late fees waived.


What’s next?

When you work for someone else as an employee, you receive a paycheck that is less than what you earned because your employer withholds income tax, Social Security tax and Medicare tax from your wages, and sends that money to the government. But when you are self-employed, the entire burden of paying taxes is on you. That’s why it’s crucial to know what self-employment taxes are and how to calculate and pay them.

Credit Karma Guide to Self-Employment Taxes

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