Raleigh NC Financial Advisor: Tax Tips for the Self-Employed
Setting out on your own as a small-business owner takes guts, grit, and lots of organization. There are many benefits to being self-employed. Often, you'll get to set your own hours, work from whatever location you please, and take on projects that interest you.
One of the most important and complicated aspects of managing your finances when you're the boss, besides keeping the lights on and vendors paid, can be managing taxes. The process of filing taxes can be trickier and more cumbersome than if you're a salaried employee. With that in mind, here are some tips to navigate the tax season.
The Self-Employment Tax
The first thing to understand is the self-employment tax. Self-employed people pay up to 15.3% in self-employment taxes—12.4% in Social Security taxes up to certain income limits indexed for inflation ($147,000 in 2022) and 2.9% for Medicare with no income limit.
Some high earners are subject to an additional 0.9% Medicare tax: The income thresholds are $200,000 for single filers and $250,000 for those who are married and filing jointly. Self-employment tax applies to net earnings — what many call profit. You may need to pay self-employment taxes throughout the year.
One big difference between self-employment tax and the payroll taxes people with regular jobs pay is that typically employees and their employers split the bill on Social Security and Medicare (i.e., you pay 7.65% and your employer pays 7.65%); self-employed people pay both halves.
Paying Quarterly Taxes
It's a common misconception that the only time you need to pay taxes is when you file your return for the year. People who are employed by someone else usually have this done automatically, since taxes are generally withheld from every paycheck. But when it comes to taxes for the self-employed, it's important to make sure you're paying the right amount each quarter.
In general, the minimum amount you'll need to pay each quarter to avoid penalties for underpayment is the lesser of:
● 1/4 of 90% of what you will owe for the current year, or
● 1/4 of 100% (110% for higher incomes) of what you owed for the prior year. This is called the safe harbor amount.
Working with a financial advisor or CPA can make sense for people who are self-employed. They can tell you how much to pay each quarter and you can focus on your business.
Keep Meticulous Records-7 Years
As a business owner, it's important to make sure you're capturing all of your business-related expenses—and keeping receipts. The IRS can go back 3 years to look at your return. But there are some instances where they can go back as many as 6. So, we recommend 7 years, just to have 1 extra year.
After that you can usually shred the information. Keeping your tax returns and all of the supporting documents organized and accessible may seem cumbersome at first but it can pay off in case the IRS comes calling.
Travel for Work-keep track of State tax rules
If you work or otherwise have earnings in a state besides the one in which you live, you may need to file another state return. Most states have an earnings threshold. If you earn more than that amount working in the state, you need to file a tax return.
But different states have different rules, so it makes sense to research the rules in each state you work in.
Deductions for the Self-Employed
It can sound like people who are self-employed get the short end of the stick when it comes to taxes but the silver lining can be getting deductions for a home office or other business expenses. For instance, if you have a home office, you may be able to get a deduction for the dedicated space devoted to your business on property taxes paid, utilities, phone bill or internet service.
Be aware that:
● The home office has to be your principal place of business, spending more than 50% of your time there.
● The space must be dedicated to your business—so a desk, corner, or room that is used only for business.
If you're claiming a deduction for property taxes and utility bills and all the other expenses, hold onto those receipts in case there's a question about those deductions. If you are self-employed, pay for your health insurance premiums, and are not eligible to participate in a plan through your spouse’s employer, you can deduct all your health, dental, and qualified long-term care (LTC) insurance premiums.
It can also make sense to keep a separate bank account just to pay your quarterly estimated taxes. That can help ensure that the money to pay the IRS is always available and ready to send.
Bottom Line
Self-employed business owners can find this type of venture very rewarding, but it also comes with extra work at tax time. If you follow these self-employed tax tips, you’ll be more likely to keep your sanity — and reduce the chances that you owe more than you can afford.
Sources
https://www.irs.gov/businesses/small-businesses-self-employed/self-employed-individuals-tax-center
https://www.fidelity.com/learning-center/personal-finance/retirement/self-employed-401k
https://www.nerdwallet.com/article/taxes/self-employment-tax-deductions
Disclosures:
This site may contain links to articles or other information that may be on a third-party website. Advisory Services Network, LLC is not responsible for and does not control, adopt, or endorse any content contained on any third-party website.
This material is provided as a courtesy and for educational purposes only. Please consult your investment professional, legal or tax advisor for specific information pertaining to your situation.
These are the views of the author, not the named Representative or Advisory Services Network, LLC, and should not be construed as investment advice. Neither the named Representative nor Advisory Services Network, LLC gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. Please consult your Financial Advisor for further information.
