The self-employment tax is money businesses and independent contractors must pay on their net profits as opposed to the FICA tax that individuals pay on their income. The Internal Revenue Service (IRS) has decided that all individuals who are the sole proprietors of a business and file a Schedule C are self-employed. Therefore, if you’re a business professional, Independent Contractor, Self-Employed Consultant, or freelancer that has the final decision over how work is performed for clients and customers, then you fall into the “self-employed” category. In addition, entrepreneurs who form partnerships with each other for the purpose of selling goods and/or services also fall into the self-employed category.
If you generate net earnings of $400 or more from your efforts as a self-employed individual then you must pay a self-employment tax on those earnings. Payment of your self-employment tax is credited towards the benefits you ultimately receive from the Social Security System. Social Security is a federal safety net that pays out retirement benefits, survivor benefits, disability payments, and Medicare hospital insurance. There are three steps in which you can elect to pay the tax: Calculating your total net earningsand taxable earning, determining your total tax liability, and enrolling in the Electronic Federal Tax Payment System (EFTPS)
As a sound business practice, most financial advisors, consultants and Tax Attorneys recommend that the tax be paid as income is earned. This avoids the business owner from having to shell out a large sum at the end of the year, in addition to having to pay underpayment penalties.
That’s what you pay in self-employment taxes is a percentage of the total net income from your business activities, then the only reliable way to reduce the amount of tax you pay is to increase business related expenses. This will have the effect of reducing net income from your business. Obviously, the less income your business produces then the less you have to pay in all manner of taxes. Don’t make the mistake of thinking that ordinary deductions will impact self-employment taxes. For example, the standard deduction, itemized deductions, health insurance expenses, retirement plan contributions, or individual 401(k) plan contributions. Those types of tax deductions will only impact your federal income tax. For proper planning, be sure to consult a D.C. Self Employment Tax Attorney.