The Tax Guide for Self-Employed Entrepreneurs

by | Nov 2, 2022 | Accounting, Business, Taxes

The Great Resignation during the pandemic resulted in former employees at companies exploring different options in the world of work. One of the most prominent options has been entrepreneurship. Although the benefits of becoming an entrepreneur can be advantageous, some challenges come with it. 

One challenge probably at the top of every entrepreneur’s list is paying taxes. We encourage business owners to embrace this article as a tax guide for self-employed entrepreneurs.

We will discuss what type of taxes entrepreneurs are liable for, deductions that can offset the taxes, tax forms that should be filed, and how often taxes should be paid between tax seasons for individual taxpayers. 


Self-Employment Tax

What topics would be addressed in a tax guide for self-employed entrepreneurs? The most crucial issue in such a guide is the self-employment tax. Paying taxes can be daunting for most individuals, even accounting professionals. It is overwhelming for self-employed entrepreneurs.

Entrepreneurs working as owners of a service-based business or as freelancers are liable for a self-employment tax. The rate for self-employment tax is 15.3%, but to look on the bright side, it covers you for tax liabilities related to social security and Medicare taxes. 

Entrepreneurs incur self-employment tax in addition to their individual tax liability, which results in double taxation. Self-employment transactions are reported on Schedule SE as part of an individual’s tax return. 

Entrepreneurs should reserve funds from their businesses to cover self-employment tax, which is paid quarterly between tax seasons for individual taxpayers. 

Check out our article for additional information about quarterly estimated tax payments: Why Every Business Owner Should Care About Estimated Tax Payments


LLC or S-Corporations – Which is Best for Self-Employed Entrepreneurs?

An LLC is a legal business structure that can elect to be taxed as a sole proprietorship, a partnership, a C-Corp, or an S-Corp. Knowing which one you are is important and has very real tax ramifications.

A single-member LLC without a tax election is by default a disregarded entity. That means that it is treated by the IRS as a sole proprietor for tax purposes. A multi-member LLC by default without a tax election filed will be treated as a partnership by the IRS. One of the biggest misconceptions is that having an LLC offers any tax advantages. From a tax perspective, an LLC on its own is just a more expensive way of being a sole proprietor. 

Service-based businesses set up as S-Corporations avoid double taxation; an S-Corp pays no taxes on its income because it passes the income onto the S-Corp shareholder owner. But they must meet specific criteria to be eligible for that pass-through taxation. The compliance costs for being an S-Corp are also higher as owners now become employees of the S-Corp and must pay themselves a reasonable salary and employer portion of payroll taxes. The tax preparation fees associated with the S-Corp tax return are also generally higher. 

This may not be typical information enclosed in a tax guide for self-employed entrepreneurs, but the setup of small businesses should be considered from a tax perspective. 


Deductions to reduce Self-Employment Tax Liabilities

Deductions to reduce self-employment tax liabilities are an essential topic for self-employed entrepreneurs to address in a tax guide. Most owners of service-based businesses, consultants, and freelancers are aware of the option to deduct expenses to offset against revenue to reduce their self-employment tax liabilities. 

However, some expenses are an oversight when determining which costs can be claimed by self-employed entrepreneurs as business expenses. Here are some examples of those expenses:

  • Home Office Expenses – This is a very gray area to determine which expenses related to home offices are deductible according to IRS regulations. The general rule is that expenses affiliated with a room or section of your home exclusively used for your business can be deducted to reduce a self-employment tax liability.

  • Mileage – It is common practice for self-employed entrepreneurs to drive to their clients for consultation. According to IRS regulations for 2022, entrepreneurs can deduct 58.5 cents per mile when traveling to meet with clients. However, this was recently increased due to the many recent economic demands. To learn more about deducting mileage as a business expense, visit our recent article here or go to IRS issues standard mileage rates for 2022.

  • Medical Insurance Premiums – Medical insurance premiums can be deducted if you are not covered by an employer or family members’ plans. If you are a sole proprietor filing a Schedule C, you can deduct the cost of health insurance paid as a self-employed individual on your 1040 directly as a reduction to income. It is not considered an expense to the business. If you are an S-Corp owner/employee-the S Corp can deduct the cost of health insurance, however it’s considered income on the W-2 of the owner/employee. Please consult a trusted tax professional for any specific questions you may have. 

Reporting these types of expenses as business expenses is why it’s best to invest in reliable tax preparation software or hire tax professionals to ensure that the deductions you are claiming will not result in an audit by the IRS.

General guidelines for deductions of business expenses can be found on the IRS’ website at Credits and Deductions     


Tax Preparation and Accounting Services

Most service-based businesses, consultants, and freelancers struggle with determining which tasks should be conducted in-house or when to seek professional services. Therefore, such tasks as bookkeeping and tax preparation are mentioned in this article as part of a tax guide for self-employed entrepreneurs. 

We can help you with such tasks, providing specific guidance with bookkeeping setup using QuickBooks software, the most prominent bookkeeping software in the market. 

Our tax preparation services will ensure that your tax forms and liabilities will be filed and paid promptly. Check our website for additional information regarding our bookkeeping and tax preparation services.