Small Business Tax Issues for Self-Employed Individuals

The United States is a nation of entrepreneurs. There are literally tens of millions of self-employed individuals that enjoy pursuing their dream business. Of course, few of you enjoy the paperwork and confusing tax issues that arise from owning your own business.

Many self-employed individuals are considered "sole proprietors" or "independent contractors" for legal and tax purposes. This is true regardless of whether you are turning a hobby into a business, selling an indispensable widget or providing services to others. As a self-employed person, you report business revenue results on your personal income tax return. Following are a few guidelines and issues you should keep in mind if you are pursuing your entrepreneurial spirit.

Schedule C - Form 1040.

As a self-employed person, you are required to report your business profits or losses on Schedule C of Form 1040. The income earned through your business is taxable to you as an individual. This is true even if you do not withdraw any money from the business. While you are required to report your gross revenues, you are also allowed to deduct business expenses incurred in generating that revenue. If your business efforts result in a loss, the loss will generally be deductible against your total income from all sources, subject to special rules relating to whether your business is considered a hobby and whether you have anything "at risk."

Home-Based Business

Many self-employed individuals work out of their home and are entitled to deduct a percentage of certain home costs that are applicable to the portion of the home that is used as your office. This can include payments for utilities, telephone services, etc. You may also be eligible to claim these deductions if you perform administrative tasks from your home or store inventory there. If you work out of your home and have an additional office at another location, you also may be able to convert your commuting expenses between the two locations into deductible transportation expenses. Since most self-employed individuals find themselves working more than the traditional 40-hour week, there are a significant number of advantageous deductions that can be claimed. Unfortunately, we find that most self-employed individuals miss these deductions because they are unaware of them.

Self-Employment Taxes - The Bad News

A negative aspect to being self-employed is the self-employment tax. All salaried individuals are subject to automatic deductions from their paycheck including FICA, etc. In that many self-employed individuals often do not run a formal payroll for themselves, the government must recapture these taxes through the self-employment tax. Simply put, you are required to pay self-employment taxes at a rate of 15.3% on your net earnings up to $87,900 for 2004. For net income in excess of $87,900, you will pay further taxes at a rate of 2.9% on the excess.

In an interesting twist that reveals the confusing nature of the tax code, you are allowed a partial deduction for the self-employment tax. Simply put, you are allowed to deduct one-half of your self-employment taxes from your gross income. For example, if you pay $10,000 in self-employment taxes, you are allowed a deduction on your 1040 return of $5,000. Many self-employed individuals miss this deduction and pay more money to taxes than needed.

Health Insurance Deduction

This used to be a very messy area for self-employed individuals, to wit, you received little tax relief when it came to your health insurance bill. This was a particular burden for small business owners when considering the astronomical cost of health insurance. All of this has changed and you now may deduct 100% of your health insurance costs as a business expense.

No Withholding Tax

Unlike a salaried employee sitting in a cubicle, you are not subject to withholding tax on your paycheck. While this sounds great, you are required to make quarterly estimated tax payments. If you fail to make the payments, you are subject to a penalty, but the penalty is not the biggest concern.

A potential and dangerous pitfall of being self-employed is failing to pay quarterly estimated taxes and then getting caught at the end of the year without sufficient funds to pay your taxes. The IRS is not going to be happy if you fail to pay your taxes and you will suffer the consequences in the form of penalties and interest. Making sure you pay quarterly estimated taxes helps avoid this situation and it is highly recommended that you follow this course of action.

Record Keeping

You must maintain complete records of all business income and expenses. Simply put, document everything. Create a filing system for each month and file every receipt, etc. All business travel expenses must be documented, including auto mileage you incur when performing business tasks. Office supply stores sell business mileage books that you can keep in your car and use whenever you travel. If you have any doubt about documenting something, just do it!

In Closing

As a self-employed individual, your focus and time is spent on making your business successful. Your focus is not on the complexities of the tax code and how to limit the amount of taxes you owe. If any of the information in this article is new to you, then it is highly likely you have paid far more in taxes than required.

Richard Chapo is CEO of http://www.businesstaxrecovery.com - Obtaining tax refunds for small businesses by finding overlooked tax deductions and credits through a free tax return review.

---

Understanding Basic Tax Terms

If your like many, you don't always understand what people... Read More

To Tax or Not to Tax - This is the Question

To tax or not to tax - this question could... Read More

Small Businesses: Company Car Vs. Personal Mileage Reimbursement In Hurricane Katrinas Wake

With gas prices at an all time high before Hurricane... Read More

Are You Overpaying Taxes If You Use Tax Preparation Software?

For many business owners the answer to this quandary is... Read More

Understanding Marketing Tax Deductions

Marketing is a necessary expense in running practically any business... Read More

Tax Trap #2 -- Double Taxation: Isnt Once Enough?

Have you been thinking about incorporating your small business or... Read More

Identity Theft ? Impacting Your Taxes?

If your identity is stolen, your finances can quickly become... Read More

Euro Tax Haven Threat

Media reporting of a new EU savings tax directive has... Read More

Render Unto Caesar

Once a year Canadian taxpayers are required, by law, to... Read More

IRS Obtains More Than 100 Injunctions Against Tax Scheme Promoters

The IRS has obtained civil injunctions against more than 100... Read More

Tax Secrets - How Drew Miles Helped Me

How about a Tax Tip?As we all know Taxes are... Read More

Tax Trap #3 -- IRS Penalties, Interest and Love Letters

As a small business owner or self-employed person, one of... Read More

IRS Lock-In Letters ? What?s An Employer To Do?

Employers often ask employees to designate the amount of tax... Read More

Gambling Income and Expenses - Tax Requirements

Hit a big one? With more and more gambling establishments,... Read More

Tax Tips to Save Money on Taxes - Get the Corporate Kick and Save Loads of Money

Why a Corporation Helps Save You TaxesThe Tax Rates (Notice... Read More

How to Reduce the Estate Tax Using the A-B Revocable Living Trust

In a past article I relayed the plight of the... Read More

The Implications of Income Tax Charge on Estate Planning

OverviewIn the Pre-Budget Report of December 2003 the Chancellor Gordon... Read More

Where to Find Tax Breaks for Your Home Based Business

April 15th looms in front of most people every year... Read More

Send Your Kids To Summer Camp and Write It Off

If you paid someone to care for a child so... Read More

How to Maximize Your Home Business Tax Deductions for 2005

Someone once said, 'the best way to calculate your taxes... Read More

Fiscal Deity: Tax Consultant

Strategic planning throughout the year results in a minimal tax... Read More

Tax Audits: What Signs Make You More Likely to be Audited by the IRS?

It's a major fear for most Americans: A notice from... Read More

How To Get An Extension To File Your Business Tax Returns

Yes, the tax season is upon with the first filing... Read More

How To Get An Instant Pay Raise

As a gentleman was leaving my class recently, he wanted... Read More

Organizing Your Taxes

Does this scene sound familiar? It's April 7. You haven't... Read More

How to Cut Duty Cost and Increase Profit as an Importer

Import duties continue to be significant elements in the cost... Read More

Electronic Commerce Taxation and Pakistan

Assume a buyer in Pakistan downloads software from the Internet... Read More

Tax Reform, My Way

We need real tax reform and we need it now.... Read More

Tips and Simple Guidelines on How to Calculate Payroll Taxes

Managing a business small, medium or big requires you to... Read More

Need a Copy of Your Tax Return Information?

Taxpayers have two easy and convenient options for getting copies... Read More

1031 Exchange Rules and Requirements

Following is a reproduction of the IRS's rules and requirements... Read More

IRS Statute of Limitations: Do Taxes Ever Expire?

Many Americans believe that an IRS debt is a debt... Read More

How Home-Based Businesses Can Avoid Giving Uncle Sam More than His Share

How Home-Based Businesses Can Avoid Giving Uncle Sam... Read More