The pandemic spurred many Americans to leave the traditional workforce and start their own businesses. It’s likely that some of your clients are among their ranks.
Whether it’s a side hustle or a full-time venture, new small business owners likely know there are tax implications. But they may not know all the nuances, like how to file quarterly taxes or what tax deductions are available to self-employed people.
You may want to refer your clients to a tax professional for specific guidance on tax questions. The IRS page on taxes for small businesses is also a useful resource. But here are some of the basic concepts you may want to share to get them started.
What Is Self-Employment Tax?
In addition to regular income tax and certain other taxes, people who work for themselves pay 15.3% of their adjusted gross income in self-employment tax. Since they don’t have an employer paying a part of their Social Security and Medicare taxes, this covers both the employee and employer portion.
12.4% for Social Security (old age, survivors and disability insurance)
+2.9% for Medicare (hospital insurance).
= 15.3% self-employment tax
Because they’re paying into these programs, self-employed people can collect Social Security and Medicare when they reach the minimum age.
What Self-Employment Tax Deductions Are Available?
While self-employed people have to pay more in Medicare and Social Security taxes, they also have some deductions that aren’t available to traditional employees. Self-employed people may want to consult a tax professional for advice on their specific situation.
Here’s a look at some tax deductions that might be available:
Business use of a vehicle
Health insurance premiums
Retirement savings such as contributions to a SEP IRA or solo 401(k)
Business insurance premiums
Phone and internet costs
Business travel and meals
Advertising and marketing costs
What Are Quarterly Taxes and How Do You File Them?
People who do not have taxes automatically withheld from their paycheck may be required to pay taxes four times a year. These are called quarterly taxes. They’re based on estimated adjusted gross income (AGI), often on the prior year’s income. You might have to pay quarterly estimated taxes even if you’re not self-employed.
The IRS requires sole proprietors, partners and S-corporation shareholders to make estimated tax payments if they expect to owe $1,000 or more when filing their taxes. That threshold is lowered to $500 for corporations. IRS Form 1040-ES is for individuals filing estimated taxes, and Form 1120-W is for corporations. Penalties may apply to people who fail to pay estimated taxes or who underpay their estimated taxes.
First quarter: April 18, 2022
Second quarter: June 15, 2022
Third quarter: September 15, 2022
Fourth quarter: January 15, 2023 (due the following year)
The deadlines for quarterly estimated taxes change year to year based on how the calendar falls. Also keep in mind that the timing to submit your tax return is based on whether the self-employed person is a solo or an incorporated business.
Quarterly taxes can be paid through the IRS website, through the mail using Form 1040-ES (individuals) or Form 1120-W (corporations), by phone or through the IRS app.
While taxes may be more complicated for self-employed people, there are many benefits to self-employment, too. As your self-employed clients grow their businesses, they may be ready to invest more money for the future and enlist your help in long-term financial planning.
IRS Circular 230 Disclosure: American Century Companies, Inc. and its affiliates do not provide tax advice. Accordingly, any discussion of U.S. tax matters contained herein (including any attachments) is not intended or written to be used, and cannot be used, in connection with the promotion, marketing or recommendation by anyone unaffiliated with American Century Companies, Inc. of any of the matters addressed herein or for the purpose of avoiding U.S. tax-related penalties.
This information is for educational purposes only and is not intended as tax advice. Please consult your tax advisor for more detailed information or for advice regarding your individual situation.
This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.