Being a business owner or working from home can be rewarding. It can also be complicated when it comes to figuring your income taxes. Because you are self-employed and personally responsible for making your own tax payments, you need to know the regulations.
You are considered self-employed if:
- you carry on a trade or business as a sole proprietor or an independent contractor
- you are a member of a partnership that carries on a trade or business
- you are in business for yourself and receive payments for products or services you provide but you are not an employee
Like Social Security and Medicare taxes withheld for most employees, self-employment taxes are the Social Security and Medicare amounts withheld on income primarily for individuals who work for themselves. You must pay self-employment tax if your net earnings from self-employment (not church related) are $400 or more, or if you made $108.28 or more as a church employee. Special self-employment tax rules for caregivers, or individuals who work in the homes of elderly or disabled individuals, can be found in Publication 926.
The self-employment tax rate for income earned in 2016 is 15.3%. This rate is broken down into 12.4% for Social Security (old-age, survivors, and disability insurance) on earnings up to $118,500 ($127,200 for 2017) and 2.9% for Medicare (hospital insurance). In addition, if your adjusted gross income (AGI) is more than $200,000 ($250,000 if married filing jointly), the income over this AGI is subject to an additional 0.9% additional Medicare tax.
It is important to keep separate and accurate records for business-related income or expenses if you plan to take deductions or credits for your business. Your business income includes:
- money paid to you for sales of products or for services you provide
- services or goods provided to you as payment
- income reported on Form 1099-Misc, box 7, as nonemployee compensation
- any other income received in the course of business
The cost of running your business can be deducted only if the expenses are ordinary and necessary. An ordinary expense is one that is common and accepted in your field of business. A necessary expense is one that is helpful and appropriate for your trade or business.
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The following are general business expenses that may qualify for a deduction.
- Home Office. If you use part of your home as your office, you may be able to deduct some of the expense. However, that part of your home must be used regularly and exclusively as the principal place of your business or where you meet or deal with customers or clients. Your home office can be a separate structure on your property that is not attached to your home.
- Business Vehicle. If you use your car or truck for business purposes, you may be able to deduct the cost of operating your vehicle, or you can take the standard mileage rate. You must keep written records of the number of business miles driven.
- Property. If the property you acquire for business use is expected to last more than one year, you generally cannot deduct the entire cost as a business expense in the year you acquire it. Through depreciation or the process of assets slowing wearing out over time, you can deduct some of the property cost over a specific period of time on each year’s tax return. This includes certain types of property, such as furniture and buildings. The property is no longer depreciable when you have recovered its full cost or it is no longer used for the business. Qualifying business purchases can be deducted in the year the items were placed in service rather than depreciated. Additionally, all business start-up costs, including franchise fees and goodwill, must be amortized rather than depreciated. Similar to depreciation, amortization recovers the costs of intangible assets while depreciation recovers the cost of tangible assets.
- Insurance. Your self-employed health insurance premiums for medical and qualified long-term care is 100% deductible if paid to a plan established under your business and your business profit equaled or exceeded the insurance amount.
Filing Your Tax Return
You must report all income you receive from your business on your tax return unless it is excluded by law. If you own more than one business, you must file a separate tax return for each business.
To file your return, you must use Schedule C or Schedule C-EZ to report your income or loss. If a reported loss is caused by an activity “not engaged in for profit,” the loss is not allowed as a deduction against other income. Small business and individuals who are in business for themselves and make under $5,000 may be able to use Schedule C-EZ. When a net profit of at least $400 is reported on the Schedule C or C-EZ, Schedule SE should be filed. Other tax forms may be needed, depending on the type of business and where the business operates.
Business with two or more owners generally are not eligible to use Schedule C. A partnership return would have to be filed unless you are qualified for some other type of business return. A married couple who jointly operate an unincorporated business and who file a joint return can elect not to be treated as a partnership for tax purposes. The husband and wife can be the only members of the qualified joint venture and both must materially participate in the business.
Making IRS Payments
Since an employer is not withholding taxes from your income on your behalf, you may need to make quarterly estimated payments by filing Form 1040-ES, Estimated Tax for Individuals. Last year’s tax return is needed to fill out the form. Payments can be made by mail or online using either the IRS’s Electronic Federal Tax Payment System or Electronics Fund Withdrawal.