Advice for the self-employed
With economic conditions over the last several years being what they are, many people have turned to working for themselves in some capacity, either as a means to supplement their income or even to completely replace a lost job.
But there are special tax considerations that come with this territory that can catch you unaware. Today’s column discusses some common things you need to know if you find yourself “self-employed”.
First, many people do not realize that self-employment income can include income that you receive for part-time work you do out of your home. This could include income you earn in addition to your regular job as an employee.
If you have self-employment income, at a minimum you will need to file a Schedule C, Profit or Loss from Business, or Schedule C-EZ, Net Profit from Business, when you file your personal income tax return.
Other forms to support Schedule C may also be needed, such as Form 4562, Depreciation and Amortization, upon which you would calculate the deductible depreciation expense on any business assets you acquire and possibly need to report information regarding the business versus personal use of any vehicles used in your business.
A second thing you need to know is that when you are self-employed, you generally have to pay self-employment tax in addition to income tax. Self-employment tax is the equivalent of the Social Security and Medicare taxes held out of an employee’s paycheck and matched by an employer.
Since there is there is no paycheck from which to withhold this and because you are your own employer when self-employed, you have to pay the self-employment tax as part of your income tax filing. You figure this tax using Schedule SE, Self-Employment Tax.
The self-employment tax is due when net self-employment income exceeds $400 for the year, so potentially must be filed and paid even for individuals who might not have enough income to be required to file a return normally. This can be a trap for the unwary.
Another potential trap is that self-employed persons typically will need to make estimated tax payments, which is the prescribed way to pay taxes on income that is not subject to withholding. If you do not make estimated tax payments, you may have to pay a penalty when you file your income tax return.
The underpayment of estimated tax penalty applies if you do not pay enough taxes during the year. In general, to avoid the penalty, you must pay throughout the year at least 100% of your prior year tax liability or 90% of your current year tax liability through withholding or estimated tax payments due at specific intervals.
How about some good news? When you file your tax return, you can generally deduct as business expenses the costs you paid to run your trade or business.
You can deduct most business expenses in full, but some costs must be ’capitalized.’ This means you can deduct a portion of the expense each year over a period of years (thus my reference above to Form 4562).
Finally you may deduct only the costs that are both ordinary and necessary. An ordinary expense is one that is common and accepted in your industry. A necessary expense is one that is helpful and appropriate for your trade or business.
There are many sources of excellent information regarding small business and self-employment issues. Some of those include the Small Business Administration (www.sba.gov) and the IRS Small Business and Self-Employed Tax Center on the IRS website (www.irs.gov). Many universities also offer resources for small businesses that may be helpful.
Lane Keeter, CPA is Office Managing Partner of the Heber Springs Office of EGP, PLLC, CPAs & Consultants