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ToggleIf you work for yourself, you have to think about many things. One of the most important is the Self-Employment Tax. Many people ask, “What is Self-Employment Tax?” It is the tax that self-employed people must pay to cover Social Security and Medicare.
Unlike regular jobs, where your employer handles part of the tax, self-employed people pay both parts. Knowing how this tax works can help you plan better and avoid surprises during tax season.
Self-employment tax refers to the tax that people must pay when they earn income by working for themselves. This tax covers contributions to both the Social Security and Medicare programs. These taxes are usually taken out of a paycheck when someone works for an employer. However, if you’re self-employed, you are responsible for making the payments yourself. This tax is very important for freelancers, gig workers, and small business owners.
Self-employment tax comprises important parts:
The total self-employment tax rate is 15.3%, which leads to funding of Social Security and Medicare. Since self-employed persons do not have an employer to share the burden of this tax, they need to cover the entire amount on their own.
If you make money through your own business or by offering freelance services, you might be responsible for paying self-employment tax. Some common categories of people are are generally needed to pay the tax are
The IRS says you must pay self-employment tax if your net income is $400 or more in a year. If you earn $108.28 or more from work with a church or a church group, you may also need to pay this tax. Even if you have a regular job, if you earn from the rise of one side, you will have to pay self-employment tax on that income.
A step-by-step guide for determining the self-employment tax
Figure out your net income
Multiply your net income by 92.35%
Apply the 15.3% rate
Example:
If you earn $50,000 net income from freelancing:
$50,000 x 92.35% = $46,175
$46,175 x 15.3% = $7,060 self-employment tax
Note: For income over $160,200 (2023), Social Security tax no longer applies. But the 2.9% Medicare tax still does. And if you earn more, then you might have to pay additional 0.9% medicare tax.
You don’t pay Self-Employment Tax on your full income. The IRS gives you a small deduction.
Example:
To file your self-employment tax, you must fill out specific IRS forms:
As taxes are not taken out of your income, the IRS expects you to pay them four times a year.
To calculate estimated payments, use:
It is better to pay quarterly. Using this method, you can avoid fines and interest from the IRS.
Many people make mistakes when dealing with self-employment Tax. Here are some to watch out for:
Self-employed workers can use smart strategies to reduce the amount they owe. Here are some ways:
You can deduct many business expenses:
This minimizes your net income, which also decreases your self-employment Tax.
If your business is growing, you might save money by forming an S-Corp.
Always consult a tax advisor before switching.
Contribute to a retirement plan like:
This reduces your taxable income and reduces your tax bill.
If you work a regular job and do freelance work on the side, here’s how it affects your taxes:
Understanding what is Self-Employment Tax is important if you work for yourself. This tax covers Social Security and Medicare. If you are working as a freelancer, gig worker, or operating a small business, then you must pay this tax. You should learn how to determine it, avoid common mistakes, and use innovative software and smart tips to reduce your bill. However, with little but careful planning, you can stay ahead and avoid trouble with the IRS.
Meru Accounting helps self-employed pros with tax filing, smart planning, and compliance, so they can focus on their work without stress about deadlines or fines. Our tax professionals ensure your taxes are filed accurately and on time.