The Pros And Cons Of Being Self
Lynne Bell takes a look at some key considerations for individuals considering becoming self-employed.
When someone is thinking of starting a new business, one of the first things they should consider is selecting the appropriate legal status for their venture. Do they want to be self-employed, or form a limited company?
Here we are going to look at the advantages and disadvantages of self-employed status.
Employers NICsEmployees are deducted income tax and National Insurance contributions from wages. However, the employer generally pays another 13.8% NICs on top of the salary. This can be a sizeable sum if several employees are involved.
If you form a limited company, you are an employee and your company will have to suffer the 13.8% liability on your own wage if it goes above NICs limits.
Some companies can claim employment allowance to help offset the cost of employers NICs, but not self-employed individuals with no employees.
A self-employed person does not pay this category of NICs. They normally suffer class 2 NICs, which is a relatively small set weekly amount, and class 4 NICs, the main rate of which was 9%.
Tax-free allowancesEveryone has the same basic personal allowances, although these are sometimes adjusted by HMRC for various reasons. This is where a limited company can be more tax-efficient, as it will often be possible to declare dividends, which do not attract NICs for the recipient or the company.
Similar Articles:
Social Security And Medicare Taxes
It is important to note that the self-employment tax refers to Social Security and Medicare taxes, similar to Federal Insurance Contributions Act tax paid by an employer. When a taxpayer takes a deduction of one-half of the self-employment tax, it is only a deduction for the calculation of that taxpayers income tax. It does not reduce the net earnings from self-employment or reduce the self-employment tax itself.
Remember, youre paying the first 7.65% whether you are self-employed or work for someone else. And when you work for someone else, youre indirectly paying the employer portion because thats money that your employer cant afford to add to your salary.
Self-employed individuals determine their net income from self-employment and deductions based on their method of accounting. Most self-employed individuals use the cash method of accounting and will therefore include all income actually or constructively received during the period and all deductions actually paid during the period when determining their net income from self-employment.
Qualified Business Income Deduction
The qualified business income deduction allows some small business owners to exclude up to 20% of their business income from federal taxes.
Business owners may qualify for this deduction for tax years 2017 through 2025. You can deduct this amount if youâre a sole proprietor, an S-corporation, or a partnership. You arenât required to itemize deductions to qualify.
You May Like: What Is The Max Social Security Benefit
Potential Tax Advantages For The Self
Tax-wise, being self-employed is not all bad news. Here are some significant federal tax advantages of self-employed status.
Deductible Contributions to Self-employed Retirement Plan. For the 2022 tax year, a self-employed individual can potentially make a deductible contribution of up to $61,000 to a tax-favored retirement plan. Available options include a Simplified Employee Pension , a Keogh profit-sharing plan, a solo 401 plan, a SIMPLE IRA, and a defined benefit pension plan. Contact us for details on self-employed retirement plan options.
Deduction for Self-employed Health Insurance Premiums. If you qualify, you need not itemize to claim this deduction. Contact us for details.
Deduction for Business Meals. For 2022, you can deduct 100% of business meals provided by restaurants. After this year, the deductible percentage will fall back to 50% unless Congress extends the 100% write-off deal.
Qualified Business Income Deduction. The QBI deduction was the centerpiece of the 2017 Tax Cuts and Jobs Act . Through 2025, the QBI deduction is available to eligible self-employed individuals. The deduction can be up to 20% of net income earned from certain pass-through businesses, including a sole proprietorship or single-member LLC business thats treated as a sole proprietorship for federal income tax purposes. Great, but the QBI deduction rules are complicated, and the deduction can be phased out at higher income levels. Contact us for details.
You Have A Few Good Options:
Traditional IRA or Roth IRA
These are the most straightforward plans you can set up yourself, but they also have the lowest contribution limits. Contributions are up to $6,000 in 2021, up to $7000 as a catch-up contribution for those 50 and above. There is a tax deduction for the traditional IRA and no immediate deduction for Roth IRA.
If you contributed to your IRA plan in your previous job, you could roll over the plans.
Solo 401K
This plan is for a business owner or self-employed person with no other employees except your spouse. The solo 401K plan has a particular benefit as the participants are both employer and employee, which means the self-employed person can contribute in two ways. As an employee, you can contribute $19,500 in 2021, or $26,000 if you are 50 or older.
Then as employer, you can contribute up to 25% of compensation annually, up to a maximum of $58,000 in 2021 on an annual basis.
The owners spouse may also contribute if they are working for the business, thereby potentially doubling the contribution.
The Simplified Employee Pension or SEP IRA is good for business owners or self-employed with no or few employees. Employers must set annual contributions at the same percentage of compensation for all employees, including the business owner. Annual contributions are limited to $58,000 as of 2021, and employee contributions are business expenses.
There is no Roth IRA option.
SIMPLE IRA
Defined Benefit Plan or Pension
Don’t Miss: County Of Orange Employee Benefits
Which Method Is Better For My Business Vehicle: Standard Mileage Or Actual Expense
It depends on the vehicle-related expenses that you have incurred during the year. If youve spent significant money on maintenance , car inspections, and registration, then it may be more beneficial for you to use the actual expense method.
On the other hand, if youve paid minimal expenses in the year or driven many miles for business, then the 56 cents per mile in 2021 may provide a larger expense deduction. Its also simpler because you dont need to keep detailed records of all your expenses. If you have kept all of your expense records, it is always beneficial to check your total expense deduction under both methods.
Real World Examples Of Home Office Expenses
As an example, consider a freelance writer who operates their own business out of their home. They have a dedicated office space which is approximately 200 square feet, a cell phone that is only used for work-related calls and a subscription to a magazine that provides editorial leads to writers. All these items are tax-deductible as home office expenses, including the 200 square feet of the writers house, since that room is used for business purposes.
Additionally, the writer can deduct the ink that they use to print contracts out, the full cost of the all-in-one printer that they had to purchase to be able to send those signed contracts in and any industry-related training they complete.
You Can Work Where You Want
When you set up your business, you may choose to rent an office space to work in. However, many self-employed people choose to work from home, which can help with improving your work-life balance since you won’t have to spend time commuting. Other freelancers also set up their businesses in such a way that means they’re able to work on the move, which is particularly attractive for those who want to be able to travel without sacrificing their work or losing income.
Related:Everything You Should Know About Working From Home
Paying Your Own Taxes
Yup, if youre self-employed, youll have to deal with all of your own national insurance contribution and income tax. This includes doing all your own paperwork and filing your tax returns to HM Revenue & Customs.
If you are self-employed or a director of a company, or receive any other non-taxed income, then youll need to file a self assessment tax return. For someone self-employed, youre expected to provide records including the details of all your sales and takings, and a record of your purchases and business expenses.
Youll have to pay your tax and NICs on the 31 January following the end of your tax year. However, HMRC will ask for payments on account for the following years estimated tax on 31 January and 31 July each year.
Sorting your own taxes can be incredibly time-consuming, so you may want to outsource your accountancy to save time.
You Enjoy More Flexibility
Surveys repeatedly find that workers would appreciate having more flexibility in their schedules. This could consist of arriving to work an hour late, leaving the office an hour early or finishing projects at home or on the road.
Despite mobile technology, cloud computing and the endless opportunities to work remotely, most people are still chained to their cubicles. To this date, youre required to work the standard business days and hours, even if you feel that you could get all your work done in the morning or during non-business times. It can be frustrating at times.
One of the main benefits of self-employment is the fact that you have far greater flexibility. Your flexibility can be the days and hours you choose to work or the location you can get your tasks completed. While you should put in your 40 hours, you can design your own schedule rather than have a private firm dictate it to you.
Dont Miss These Tax Benefits If Youre Self
Self-employment has its pros and cons. Oftentimes self-employment means late nights, tight finances, and limited social outings, at least for a season. However, once established, you get the benefits of a flexible schedule, income, and a thriving sense of accomplishment! Even starting out, self-employment offers tax benefits that you can experience right now, regardless of the size of your business. If you understand these tax breaks and take advantage of them, you can help your company move forward with optimal growth.
Important Tax Deductions For The Self
Self-employed business owners have the advantage of being able to deduct most of their business expenses for tax purposes. Being able to take these tax benefits can reduce your business tax bill. Tax regulations can change, but you can take some important tax deductions right now.
What Are The Benefits Of Being Self
The benefits of being self-employed include being your own boss, creating your own schedule, flexibility, working towards your own dreams, taking enjoyment in the challenges of starting something from scratch, choosing the people you work with, and creating your own work environment.
Know Which Deductions You Can Claim
A big break for the self-employed
Under the 2017 Tax Cuts and Jobs Act, self-employed individuals can deduct 20 percent of their qualified business income from their federal income taxes. If you generated $45,000 in income from your business and had $10,000 in deductions, your QBI would be $35,000. You can then deduct 20 percent of that, or $7,000, from your income, which will reduce the amount of tax you owe.
You don’t have to form a special type of business to get the self-employment deduction. If you’re a sole proprietorship as many self-employed people are you’re entitled to the tax break. Other fine print:
- The break reduces only federal income tax, not the self-employment tax.
- The deduction is phased out for joint filers with $315,000 to $415,000 in personal income, and between $157,500 to $207,500 for all other filing statuses. You get no deduction if your personal income is above those ranges.
- The deduction is limited for individuals in some traditionally high-paying service businesses, such as lawyers and doctors.
“It’s a phenomenal deduction, and most businesses qualify, says McNeill. You may be able to generate income this year and pay almost no income tax on it at all.”
Providing Additional Income Support To Self
Announced on February 9, 2021, self-employed individuals who applied for the CERB and would have qualified based on their gross income will not be required to repay the benefit, provided they also met all other eligibility requirements. The same approach will apply whether the individual applied through the CRA or Service Canada.
Some qualifying self-employed individuals whose net self-employment income was less than $5,000 may have already voluntarily repaid the CERB. The CRA and Service Canada will return any repaid amounts to impacted individuals.
Filing Your Taxes Can Be Tricky When You’re Self
Theres no avoiding giving Uncle Sam his due, and if you want to avoid an audit, its important to do it right the first time. Unlike W-2 employees, self-employed individuals do not have taxes automatically deducted from their paychecks. Its up to them to keep track of what they owe and pay it on time.
Because taxes arent automatically deducted, take-home pay for the self-employed tends to be higher than it is for wage earners. However, unless you want the IRS to come knocking, its wise to set aside a chunk of those funds to cover your tax obligations.
Business owners, whether they are self-employed freelancers or corporation owners, are responsible for complying with tax law with respect to their business, said Shoshana Deutschkron, vice president of communications and brand at Upwork. Financial literacy is a critical skill, that literacy includes an understanding of taxation.
You need to hold on to some of your money, added Lise Greene-Lewis, CPA and tax expert for TurboTax. You should pretend you dont have that much money because your income varies so often. You have to think about paying your taxes.
Not only are government forms daunting, but learning the ropes of taxation can be truly complicated. If youre filing as self-employed with the IRS, here are the basics of filing, paying and saving for taxes.
Looking For Benefits We Can Help
At Taxfluence we want to help you identify every possible benefit of self-employment. We make it our mission to help small businesses and self-employed individuals claim every possible deduction on their taxes. If youre struggling to identify your business deductions, reach out today!
Don’t miss a deduction!
Why Is It Important To Know If I Am Employed Or Self
Whether you are employed or self-employed will make a difference to the amount of tax and NIC you have to pay, as well as how you pay it.
If you are an employee, your employer is required by law to operate Pay As You Earn tax and Class 1 National Insurance contributions on your wages and pay it to HM Revenue & Customs on your behalf. If you are self-employed you pay income tax through the Self Assessment tax return system, as well as Class 2 and Class 4 National Insurance contributions directly to HMRC.
If you think that you are employed, you need to look at pages within the employment section for more information about your tax position. If you think that you are self-employed, you need to look at pages within this self-employment section for more information about your tax position.
It is important to know if you are employed or self-employed for employment law purposes too. Those who are employed or self-employed under tax law will usually be employed or self-employed for employment law, but not always. There is also worker status to consider .
Finally, it is important to know if you are employed or self-employed because your tax credits or universal credit status may also follow your employment status for tax purposes. Please see the question below for more information.
So be wary if:
- you are offered work and given a choice of being an employee or self-employed
- someone you are going to work for tells you that you are self-employed.
Considerations For Being Self
by Michelle Lach | Apr 12, 2022 | Advisors, Michelle Lach, Risk & Reward, Tech Focus, Wealth Enhancement
Its no question that the pandemic has resulted in major shifts in the workforce. Whether it be the large-scale layoffs in March 2020 or the Great Resignation that more recently impacted personnel changes, we know that millions of Americans have left their jobs due to burn out and/or to pursue starting their own businesses in the hope of finding something that brings more personal fulfillment. In 2021, there were over 5 million new business applications submitted, which is an astonishing 55% jump from 2019.1
If the idea of starting up your own business has been on your mind, you have more than likely asked yourself if its the right thing to do financiallyor at the very least are curious about all the differences between working for a company or being self-employed. We highlight the pros and cons for both options below.
Taxes
Savings
As an employee, you can maximize your pre-tax or Roth 401 contributions up to the IRS limit of $20,500 or $27,000 for those age 50 and above . When youre self-employed, you are eligible to make contributions to a solo 401 as both the employee and the employer. This means you can contribute up to $20,500 for your employee contribution then contribute up to 25% of your compensation on top of that for the employer match.
Benefits
Flexibility/Stability
Reduce Your Interest Payments
If you have any debt, including a mortgage, loan, or credit card, check with your lending institution to see about lowering your interest rates. Sometimes your bank can refinance a mortgage or loan to reduce your monthly payments significantly.
All your savings can stay put in your account to help cover the cost of being self-employed.
How Do I File My Annual Return
To file your annual tax return, you will need to use Schedule CPDF to report your income or loss from a business you operated or a profession you practiced as a sole proprietor. Schedule C InstructionsPDF may be helpful in filling out this form.
In order to report your Social Security and Medicare taxes, you must file Schedule SE , Self-Employment TaxPDF. Use the income or loss calculated on Schedule C to calculate the amount of Social Security and Medicare taxes you should have paid during the year. The InstructionsPDF for Schedule SE may be helpful in filing out the form.