Independent contractors have to worry about federal income tax, self-employment tax, and local and state taxes when they file their returns. Sole proprietors use Schedule C with Form 1040 to report their business profits and losses to calculate the taxes they will have to pay. To avoid an underpayment penalty, independent contractors must also submit quarterly estimated tax payments each year. When you begin working for one or more companies, they should determine whether you should be treated as an independent contractor or employer based on several factors. If you are classified as an independent contractor, you will be responsible for paying both your portion and the employer’s portion of your taxes and will receive a 1099-NEC at the end of the year instead of a W-2 for your annual earnings. Here is what you need to know as an independent contractor about taxes from TMD Accounting.
Taxes Self-Employed People Must Pay
Independent contractors must pay federal, state, and local taxes and the federal self-employment tax. Here are the taxes self-employed people must pay:
- Federal income tax at a rate ranging from 10% to 37% based on the total income for the tax year
- Self-employment tax to pay into Medicare and Social Security with tax rates of 15.3% for net profits of up to $147,000 and 2.9% for net earnings above that amount
- Additional federal taxes in some situations such as the net investment income tax, alternative minimum tax, and additional Medicare tax
- State and local taxes, including income tax, registration and licensing fees, and business tax
- Sales tax if you sell goods
- Excise tax if you sell items such as guns, cigarettes, alcohol, or telephone services
Understanding the Self-Employment Tax
The self-employment tax includes a 12.4% Social Security tax on your net profits up to $147,000 and a 2.9% Medicare tax on all net earnings. This means you will pay a total self-employment tax of 15.3% on your earnings up to $147,000 and 2.9% on any earnings above that amount. If you have net earnings of more than $200,000 as a single taxpayer or $250,000 as a joint filer, you might also have to pay an additional 0.9% Medicare tax.
Available Deductions for Independent Contractors
There are many different deductions that might be available to independent contractors, including the following:
- Home office deduction for contractors who work from home and use the office space solely for business purposes on a regular basis
- Health insurance premiums
- Retirement plan contributions
- Depreciation of your equipment, machinery, and furnishings for your office and business use
- Truck and auto expenses if used for work
- The qualified business income deduction
- Expenses for outside services and contract labor
- Miscellaneous business expenses
Preparing to File Your Taxes as an Independent Contractor
Before you file your taxes, it is important for you to organize everything. You will need to know the gross amount you made as an independent contractor and how much you spent on tax-deductible expenses. Gather your 1099-NECs, profit and loss statements, expense statements and bills, receipts, and other relevant documents together.
Report Income and Deductions on Schedule C
When you fill out your Form 1040, you will use Schedule C to report your business income and deductions. You will report other sources of income, including rental income, dividends, and interest on Form 1040.
Report Net Self-Employment Income on Schedule SE
Once you complete Schedule C, you will then carry over the self-employment income to Schedule SE to calculate your self-employment tax. The self-employment tax will then need to be entered in your Form 1040 tax section.
Complete Form 1040
On your Form 1040, you will include all of your other non-business income. You can also claim non-business deductions on Form 1040, including things like student loan interest, charitable donations, self-employed health insurance, itemized deductions, and others.
Calculate Your Federal Taxes
When you enter everything into your Form 1040 and perform the calculations, you will see your total federal tax obligation. After you subtract your estimated tax payments made during the year, you will either owe taxes or have an expected refund.
Estimate Your Taxes for the Next Tax Year
As a self-employed person, you will need to estimate the taxes you’ll likely owe in the next tax year so that you can divide that amount into quarterly estimated payments to send each quarter throughout the year.
Complete Your State Income Tax Return
Once you have completed your federal tax return, you will then need to complete your state return.
What Happens if You Can’t Pay?
If you can’t pay your taxes in full, you can complete Form 9465 to request an installment arrangement. However, you can’t owe more than $25,000 and must show that you do not have the means to pay your taxes. You will then have three years to pay. The IRS will penalize you for waiting to pay your taxes after the deadline. If you fail to file a tax return by the deadline, you will be assessed a 5% penalty for each month of the outstanding amount you owe but haven’t paid. If you submit your return on time but do not pay what you owe, the late payment penalty will be 0.5% of the tax owed for each month you are overdue.
Find an Accountant for My Small Business
Small business accounting services can help to make filing your taxes simpler. If you are self-employed, working with TMD Accounting might help to ensure your taxes are filed on time and correctly and that you claim the deductions that are available to you. Contact us today to schedule an appointment at 1-856-228-2205.