Keys to making self employment worth it.

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closetoreality
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Joined: Mon Apr 06, 2015 5:46 pm

Keys to making self employment worth it.

Post by closetoreality » Fri Jun 05, 2015 6:56 am

I posted a long post about my situation, probably a bit hard to follow. To simplify things I want to hear what others have to say about making self employment contractor work actually pan out in your favor...I know theirs a 15% self employment tax onto of normal income tax for your bracket..and sometimes a state tax depending on where u live. Thankfully I'm in a income tax free state.

Examples such as making use of the 10K in tax deductions available etc.

Things to not to..etc.

Thanks.

NightFall
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Re: Keys to making self employment worth it.

Post by NightFall » Fri Jun 05, 2015 8:44 am

It is true that the self employment tax is 15.3% (6.2% * 2 + 1.45% * 2). Your regular employer pays half of your social security tax and half of your medicare tax. As a self employed individual, you pay both. Note that social security tax is paid only up until the current income limit, which is $118,500. After that, the self employment tax is only 2.9% (1.45% * 2).

It's also misleading to think of this as an additional tax compared with regular income. You currently pay a 7.65% employment tax (6.2% + 1.45%) typically referred to as FICA tax on regular income. Self employed income is subject to an additional 1.45% tax and, if you have not hit the social security maximum yet, an additional 6.2% tax. Note that this additional tax is also tax deductible, although that really doesn't make a huge difference.

If you were filing as an individual, you could be in the 28% tax bracket paying a marginal tax rate of 35.65% (28% + 6.2% + 1.45%) on regular income. Additional self employment income in this bracket would make the marginal rate 41.16% (28% + 6.2% * 2 + 1.45% * 2 - .28 * (6.2% + 1.45%)) until you hit the social security maximum at which point your marginal rate would be 30.5% (28% + 1.45% * 2 -.28 * (1.45%)). That's actually less than your marginal rate in the 25% tax bracket on regular income (32.65% = 28% + 6.2% + 1.45%). *I think these calculations are correct, but I'm sure someone will fix them if I'm wrong.

Being self-employed, you get access to (possibly) additional retirement accounts like an individual 401K or a SEP IRA. These accounts effectively allow you to shelter even more income at your top tax bracket than you would be able to otherwise assuming you're already maxing out your retirement contributions. As a business, you are also (potentially) able to take deductions, independent of the standard deduction, that you would not be able to take normally.

With all of the benefits, it sounds like a great idea.

Spirit Rider
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Re: Keys to making self employment worth it.

Post by Spirit Rider » Fri Jun 05, 2015 9:52 am

One of the things that really need to be considered with hourly self-employment is to truly understand the rates in comparison with W-2 employment. Many people don't realize how underpaid they are on a 1099.

As has been previously mentioned, you pay a 15.3% Self-Employment (SE) tax. As a W-2 employee you pay the 7.65% employee share of, now you also have to pay the 7.65% employer share. The employer share is deductible from your income tax. Also, that employer share is deducted from your net business profit to get the self-employment income for retirement plan contributions.

The full extent of this comparison to an average W-2 job might include:
  • Employer FICA 7.65%
  • Paid time off, 25/260 days ~= 10%
    • Sick Time 5 days
    • Holidays, 10 days
    • Vacation 10 days
  • Insurance, 5% -15%
    • Health Insurance
    • Short Term/Long Term Disability Insurance
    • Life Insurance
    • Dental Insurance
    • Vision Insurance
    Retirement Plan Contributions, avg. 3%
    Employer Mandates 1% - 2%
    • Unemployment Insurance
    • Worker's Compensation
For the average W-2 full time employee at a skilled/professional job, the total is usually 25%-35%. So I always recommend a 1/4 - 1/3 as a minimum premium for independent contractor status. I have always strived for 1/3 - 1/2 premium.

Now this is a part-time gig and very often some or many employee benefits are not provided. I would still want a 1/5 (20%) premium over an equivalent W-2 wage.

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Hayden
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Re: Keys to making self employment worth it.

Post by Hayden » Fri Jun 05, 2015 10:11 am

Even though you are in an income tax free state, you may still have to pay state taxes. I live in an income tax free state, and I am required to file and pay state taxes each month. States have a variety of taxes; you'll want to research the situation in your particular state for your particular industry.

In addition, state rules vary with respect to requirements for unemployment insurance and workers compensation insurance.

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BolderBoy
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Re: Keys to making self employment worth it.

Post by BolderBoy » Fri Jun 05, 2015 1:56 pm

closetoreality wrote:Examples such as making use of the 10K in tax deductions available etc.
I'm not sure what this is.

I ran a sole proprietorship form of self-employment, either full-time (1099 only source of income) or part-time (income from 1099 & W2), for almost 40 years. IMO, the single biggest advantage arising out of having self-employment income is the retirement plan monies that can be squirreled away over time. Generally it outstrips by a LARGE margin what a W2 employer will do.

Remembering that your retirement plan contributions are on NET self-employed income, if you goal is to have as many deductions as you can muster, then my perspective may have little value to you.

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vitaflo
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Re: Keys to making self employment worth it.

Post by vitaflo » Fri Jun 05, 2015 8:01 pm

Take what you would normally make in salary and double it. Figure out your hourly rate from that, and that's what you should charge. A good chunk of your money will go to business expense stuff that W2 employees don't need to worry about, thus the "double" figure. If you can't make a go of it with that, then a W2 job may be more suitable if finances are the primary motivator.

Get a SEP IRA or Solo 401k and max it out. Probably the largest benefit a self employed person gets (also a nice tax deduction).

Work hard and be pleasant to work with. That's about all there is to it. Good luck!

tibbitts
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Re: Keys to making self employment worth it.

Post by tibbitts » Fri Jun 05, 2015 8:27 pm

Employers will use whatever form of employment that's legal (based on terms and conditions of employment) and is optimal for them. It's very possible that if you charge what you calculate is "fair" to you for self-employment, you'll find yourself being replaced by another contractor - or even a W2 employee.

The replies here are skewed to very high income earners, just because that's what this forum is oriented toward. Most contract employees outside of this forum earn relatively low income that precludes many of the theoretical advantages (relatively high deferred compensation plan limits, for example) of self-employment. Remember that to deduct an expense, it has to be entirely or at least mostly used in the business. You can't just buy toys and (legally) deduct them because you're self-employed, even if you make incidental use them in your business.

billfromct
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Re: Keys to making self employment worth it.

Post by billfromct » Sat Jun 06, 2015 4:11 am

You asked about "examples such as making use of the $10k in tax deductions available".

I was referring the personal exemption ($4.0k) and the standard deduction ($6.3k for those not itemizing deductions) for a total of about $10k of deductions for Federal taxes. One can either itemize their Federal tax deductions for such things as mortgage interest, state & local taxes, charitable contribution, etc. If your Federal tax deductions don't amount to $6.3k, you can take the $6.3k standard deduction for a single tax payer, $12.6k for married filing jointly.

Everyone gets these deductions, not just the self employed or 1099 wage earners.

bill

hoops777
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Re: Keys to making self employment worth it.

Post by hoops777 » Sat Jun 06, 2015 4:56 pm

I would say with all sincerity if you are worried about the taxes you should not be self employed.Being self employed has many facets and to me a major one is being SELF employed.I make my own rules and my own way in accordance with the needs of my customers.I never once even considered the taxes vs working for someone else.
K.I.S.S........so easy to say so difficult to do.

carolinaman
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Location: North Carolina

Re: Keys to making self employment worth it.

Post by carolinaman » Sun Jun 07, 2015 7:14 am

Many contractors find that they have to spend time marketing to get their next assignment. Also, there will likely be gaps in your work. These should be built into your billing rates based upon your expectations. This would not necessarily apply if you have a long time contract with one company, but would definitely apply if you tend to do more shorter term contracts. Also, contractors are usually responsible to do any required training for the assignment on their own time, and are not paid vacation or holiday pay. Obviously, considering all of this your rate still has to be competitive but many contractors tend to understate the impact of all of these factors.

I used lots of contractors in my work and would sometimes ask them about market salaries for positions. They always pointed out to me that I could pay a lot less than they had to because I offered stable, full time employment with good benefits.

Another factor to consider is risk. When business downturns occur, contractors are usually the first to be let go. Contractors should definitely have an emergency fund because they have a greater likelihood of using it than most people.

Vilgan
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Re: Keys to making self employment worth it.

Post by Vilgan » Sun Jun 07, 2015 8:40 am

Self Employment should be attractive for the higher pay possibilities, freedom, and responsibilities. If it isn't clear to you that self employment is the way to go, its probably better to just stay on a W-2. Taxes get way more complicated, there are more of them, job stability goes down, a higher emergency fund is needed, you need to worry about a lot more things like insurance and contracts and such, etc.

If you aren't clear that self employment is worth it for you, its probably not worth making the jump. I recently made the jump and am loving it, but my personality is such that I was always going to go out on my own eventually it was just a question of when.

hoops777
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Joined: Sun Apr 10, 2011 12:23 pm

Re: Keys to making self employment worth it.

Post by hoops777 » Sun Jun 07, 2015 11:56 am

Vilgan ...excellent post....you said it better than I did. :D
K.I.S.S........so easy to say so difficult to do.

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