Am I understanding self employment correctly?

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Topic Author
red5
Posts: 794
Joined: Sun Apr 01, 2012 4:42 pm

Am I understanding self employment correctly?

Post by red5 » Sat Apr 01, 2017 10:17 am

Hello folks,

For 2017 I am being switched from a W2 employee to, uh, I guess a 1099-MISC contractor. This is my first time being paid like this.

I've spent the morning going over estimated tax worksheets, schedule C, SE, self employment taxes and deductions, and I must admit it's a bit dizzying for me.

Do I have the basics correct (as written below)?

EDIT 1: I believe I am incorrect and that the SS and Medicare taxes are also due quarterly. If and when I pay quarterly taxes will it be noted how much is going towards SS, Medicare, and Income taxes?



- Being a self employed worker I drive around to clients houses and do some work for a local company. My paychecks consist of the amount of money I am billing the local company. No taxes, social security taxes, or medicare taxes are being withdrawn.

- Under certain conditions I must pay estimated taxes 4 times throughout the year (April, June, September, January 2018). This would essentially be my federal income tax. The estimated taxes would be calculated using Estimated Tax Worksheet and would basically be an estimate using all (W2 for other family members) income for 2017. When calculating this I am using my profit, not my income (1099MISC $ - business deductions = profit) for Line 1 (estimating AGI).

- There are also the self employment taxes (social security and medicare taxes after a .09235 deduction) of which I am obligated to pay 15.3% of my business profit (calculated at Schedule C). From my understanding this is only due when I do my 2017 taxes due April 2018. Am I correct or do they need to be paid 4 times a year as well? Also, 50% of these taxes can be deducted on my 1040. I am paying 15.3% on my profit and not my income, right?

- Schedule C will be used at the end of the year when doing my taxes. In a nutshell it is my Income - Expenses = Net Profit. I believe my only deductions would be the standard mileage for my personal vehicle (am keeping track of business miles) and perhaps a purchase of Excel to keep track of everything. The result of Schedule C is inserted into Line 12 of the 1040.

- Finally, when doing my 1040 next winter:

I'll account for my Profit under Business Income (line 12)

Half of my self employment taxes (SS and Medicare) will be deducted (Line 27)

I'll have to pay the full amount of self-employment taxes because they aren't due through the year? (line 57)

Track my quarterly estimated taxes and insert that (line 65)

Spirit Rider
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Re: Am I understanding self employment correctly?

Post by Spirit Rider » Sat Apr 01, 2017 10:43 am

You mostly understand the process with some correction to the details
red5 wrote:I must pay estimated taxes 4 times throughout the year (April, June, September, January 2018). This would essentially be my federal income tax. The estimated taxes would be calculated using Estimated Tax Worksheet and would basically be an estimate using all (W2 for other family members) income for 2017. When calculating this I am using my profit, not my income (1099MISC $ - business deductions = profit) for Line 1 (estimating AGI).
Estimated taxes are just that, your tax liability will be based on your actual Form 1040 results. This will result in either a refund or tax due. Only the W-2 compensation of a spouse would impact the estimated taxes
There are also the self employment taxes (social security and medicare taxes after a .09235 deduction) of which I am obligated to pay 15.3% of my business profit (calculated at Schedule C). From my understanding this is only due when I do my 2017 taxes due April 2018. Am I correct or do they need to be paid 4 times a year as well? Also, 50% of these taxes can be deducted on my 1040. I am paying 15.3% on my profit and not my income, right?
Your SE taxes are part of your overall tax liability. The estimated tax payments must take into account all tax liability including SE tax. Your SE tax will be net business profit from Schedule C * 0.9235 (7.65% deduction) * 0.153 (15.3%). The 15.3% is composed of 12.4% Social Security (SS) and 2.9% Medicare. The SS component is only applied up to the SS max wage base (2017 = $127,200)
Schedule C will be used at the end of the year when doing my taxes. In a nutshell it is my Income - Expenses = Net Profit. I believe my only deductions would be the standard mileage for my personal vehicle (am keeping track of business miles) and perhaps a purchase of Excel to keep track of everything. The result of Schedule C is inserted into Line 12 of the 1040.
You should investigate all possible legitimate business deductions, because not only do they reduce your income tax, but also your SE tax. A quick few things that come to mind in addition to mileage; Business licenses and fees, tools for the job (laptop, tablet, cell phone, software, etc...), home office (consider the new simplified method), business supplies, etc...

Seriously consider opening a solo 401k to make retirement plan contributions. Up to $18K in employee deferrals and employer contributions up to 20% of net self-employment income (net business profit - 1/ SE tax).

livesoft
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Re: Am I understanding self employment correctly?

Post by livesoft » Sat Apr 01, 2017 10:51 am

There are a few IRS Publications for small businesses that you should read. Find them here: https://www.irs.gov/publications/
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vitaflo
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Re: Am I understanding self employment correctly?

Post by vitaflo » Sat Apr 01, 2017 2:37 pm

red5 wrote: EDIT 1: I believe I am incorrect and that the SS and Medicare taxes are also due quarterly. If and when I pay quarterly taxes will it be noted how much is going towards SS, Medicare, and Income taxes?
Spirit Rider answered the question well, but for this one, it will not be noted how much is going to SS, Medicare or Income tax when you pay your quarterly taxes (and yes you do need to pay all 3 quarterly). You just pay a lump sum of what you owe for these together to the IRS. End of year when you file your taxes you fill out Schedule SE to figure out what self-employment taxes you should have paid. That will be added to the federal taxes you should have paid and that will be subtracted from what you actually did pay quarterly during the year. This will determine if you get a refund or not.

I was a bit tripped up by this too in my first year. I kinda freaked because "how do they know what goes where?!" But that's kinda what Schedule SE is for end of year. That's how they know.

Not Law
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Re: Am I understanding self employment correctly?

Post by Not Law » Sat Apr 01, 2017 3:11 pm

If you pay for your own health insurance, you can add that to line 29 of the 1040 up to the full amount of your schedule C net income.

harvestbook
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Re: Am I understanding self employment correctly?

Post by harvestbook » Sat Apr 01, 2017 5:35 pm

Don't forget if you have state taxes they have to be filed quarterly, too. Once you get things figured out, look to tax deferrals such as Solo 401(k), SEP IRA, or traditional IRA, and also HSA if you are eligible. One of the good things about self-employment is there are a lot of deductions and deferrals that can cut your AGI. I make six figures and after maxing all deductions my marginal tax rate was only 15 percent for 2016.

All things being equal, it's better to slightly overpay tax than fall well short of what you'll owe, because you'll be assessed an underestimated tax payment penalty. Good luck.
I'm not smart enough to know, and I can't afford to guess.

Topic Author
red5
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Joined: Sun Apr 01, 2012 4:42 pm

Re: Am I understanding self employment correctly?

Post by red5 » Sun Apr 02, 2017 5:09 am

Thank you all so much. I'm gonna read over these responses a few more times to let things sink in. I had schedules and worksheets in front of me yesterday doing dry runs with Turbo Tax to see if I could get the numbers to match up (which they did!). I did the same thing when doing regular W2 taxes as an adult years ago just to gain a deeper understanding of how things work.

Spirit Rider wrote:You should investigate all possible legitimate business deductions, because not only do they reduce your income tax, but also your SE tax. A quick few things that come to mind in addition to mileage; Business licenses and fees, tools for the job (laptop, tablet, cell phone, software, etc...), home office (consider the new simplified method), business supplies, etc...

It is just a small job and I'll probably make less than 5k. I'm using my personal vehicle to drive and am tracking miles and other information in a spreadsheet. So other than the $0.54 vehicle deduction (I have not been keeping receipts) and possibly an Office subscription (I would use it for personal reasons as well) I cannot think of any other expenses or deductions.



Again, thank you all.

CFM300
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Re: Am I understanding self employment correctly?

Post by CFM300 » Sun Apr 02, 2017 1:52 pm

harvestbook wrote:All things being equal, it's better to slightly overpay tax than fall well short of what you'll owe, because you'll be assessed an underestimated tax payment penalty. Good luck.
There are exceptions to the underpayment penalty.

"Generally, most taxpayers will avoid this penalty if they either owe less than $1,000 in tax after subtracting their withholding and estimated tax payments, or if they paid at least 90% of the tax for the current year or 100% of the tax shown on the return for the prior year, whichever is smaller." https://www.irs.gov/taxtopics/tc306.html

Perhaps the easiest approach to paying quarterly taxes is to divide last year's tax liability by 4 and submit that amount before each quarterly deadline.

A couple of other things to keep in mind...

"Quarters" are not really quarters:

Q1 = 3 months (Jan - Mar)
Q2 = 2 months (Apr - May)
Q3 = 3 months (Jun - Aug)
Q4 = 4 months (Sep - Dec)

And your state's requirements might be different. To avoid a penalty in California, for instance, here's the amount of tax due each "quarter":

30% - Q1
40% - Q2
00% - Q3 (?!)
30% - Q4

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