Self Employment Tax

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Self Employment Tax

What is Self-Employment Tax?

Self-employment tax is a mandatory tax that self-employed individuals must pay to cover Social Security and Medicare contributions. It is similar to the Federal Insurance Contributions Act (FICA) tax that employers and employees pay, but self-employed individuals must pay both the employer and employee portions.

Who Needs to Pay Self-Employment Tax?

Self-employment tax applies to individuals who earn at least $400 from self-employment in a tax year. This includes:

  • Freelancers and independent contractors.
  • Small business owners and sole proprietors.
  • Partners in a partnership that earns self-employment income.
  • Gig economy workers, such as rideshare drivers and online sellers.

Self-Employment Tax Rate

As of the latest tax year, the self-employment tax rate is 15.3%, which consists of:

  • Social Security Tax (12.4%): Applies to net earnings up to the annual Social Security wage base.
  • Medicare Tax (2.9%): Applies to all net earnings, with no income cap.

Individuals earning more than $200,000 (single filers) or $250,000 (married filing jointly) must pay an Additional Medicare Tax of 0.9% on income exceeding these thresholds.

How to Calculate Self-Employment Tax

To determine self-employment tax:

  1. Calculate your net earnings from self-employment (gross income minus business expenses).
  2. Multiply net earnings by 92.35% (since only 92.35% of self-employment income is subject to self-employment tax).
  3. Apply the 15.3% tax rate to this adjusted amount.

Example Calculation:

  • Net self-employment income: $50,000
  • Taxable income: $50,000 × 92.35% = $46,175
  • Self-employment tax: $46,175 × 15.3% = $7,065

How to Pay Self-Employment Tax

Self-employed individuals do not have taxes withheld from their income, so they must make quarterly estimated tax payments to the IRS using Form 1040-ES. Payments are due on:

  • April 15
  • June 15
  • September 15
  • January 15 (of the following year)

Self-Employment Tax Deductions

Self-employed individuals can deduct the employer-equivalent portion (half) of their self-employment tax when calculating their adjusted gross income. This deduction reduces taxable income but does not affect net earnings for Social Security or Medicare.

Key Takeaways

  • Self-employment tax covers Social Security and Medicare contributions.
  • The tax rate is 15.3%, with an additional 0.9% Medicare tax for high earners.
  • Only 92.35% of net self-employment income is subject to self-employment tax.
  • Quarterly estimated tax payments are required to avoid penalties.
  • Half of the self-employment tax can be deducted from taxable income.

For more details, visit the IRS website on self-employment tax.