A self-employed person can generally earn up to $399.99 in net earnings from their business without being required to pay federal self-employment taxes. This threshold is often the primary factor determining if any federal taxes are due solely from self-employment income, as it represents the lowest point at which tax obligations typically begin for independent contractors and small business owners.
Understanding your tax obligations as a self-employed individual involves considering two main types of federal taxes: self-employment tax and federal income tax.
Understanding Self-Employment Taxes
Self-employment tax is a tax consisting of Social Security and Medicare taxes primarily for individuals who work for themselves. It's similar to the FICA taxes withheld from the pay of most wage earners.
- The Threshold: You are generally required to pay self-employment tax if your net earnings from self-employment are $400 or more. This means if your business income, after deducting all eligible business expenses, is less than $400, you typically do not owe self-employment tax.
- Calculation Basis: The amount subject to self-employment tax is generally 92.35% of your net earnings from self-employment. This calculation ensures that a portion of your self-employment income is contributed towards Social Security and Medicare benefits.
Federal Income Taxes for the Self-Employed
Separate from self-employment tax, your self-employment income is also subject to federal income tax. Whether you owe federal income tax depends on your total gross income, filing status, deductions, and credits.
- Filing Thresholds: The IRS sets annual gross income thresholds for when you must file a tax return. These thresholds vary based on your filing status (e.g., Single, Married Filing Jointly, Head of Household) and age. If your total gross income (including self-employment income, wages, etc.) falls below your filing threshold, you may not owe federal income tax.
- Standard Deduction: Most taxpayers can claim a standard deduction, which reduces their taxable income. For instance, in recent tax years, the standard deduction for a single individual has been over $13,000. If your net self-employment earnings, combined with any other income, are less than your standard deduction, you might not owe federal income tax.
- Important Distinction: It's crucial to note that owing self-employment tax and owing federal income tax are separate considerations. You could owe self-employment tax (if your net earnings are $400 or more) even if your total income is low enough that you don't owe any federal income tax. This is because the self-employment tax funds Social Security and Medicare benefits, regardless of whether you owe income tax.
Key Scenarios for Self-Employed Earnings
Here's a breakdown of how different earning levels typically affect a self-employed person's tax obligations:
- Net Earnings Less Than $400:
- Self-Employment Tax: Not required to pay.
- Federal Income Tax: Unlikely to owe, especially if this is your only source of income and it's well below the standard deduction and filing threshold for your status.
- Result: No federal taxes typically due from self-employment income.
- Net Earnings Between $400 and Your Standard Deduction Amount (e.g., $13,850 for Single in 2023):
- Self-Employment Tax: Required to pay (on 92.35% of your net earnings).
- Federal Income Tax: You generally would not owe federal income tax if your total taxable income (after the self-employment tax deduction and your standard deduction) falls below the taxable income threshold for your filing status.
- Result: Self-employment taxes are likely due, but potentially no federal income tax.
- Net Earnings Exceeding Your Standard Deduction Amount:
- Self-Employment Tax: Required to pay.
- Federal Income Tax: You will likely owe federal income tax, as your taxable income exceeds the standard deduction.
- Result: Both self-employment taxes and federal income taxes are likely due.
Practical Considerations
- Accurate Record Keeping: Always keep meticulous records of all your income and expenses. This is vital for accurately calculating your net earnings and claiming all eligible deductions.
- Estimated Taxes: If you expect to owe at least $1,000 in taxes for the year (including both self-employment and income tax), you generally need to pay estimated taxes quarterly.
- Deductible Expenses: The more legitimate business expenses you can deduct, the lower your net earnings will be, which can reduce both your self-employment and income tax liability. Common deductions include office supplies, home office expenses, business travel, and professional development.
To ensure you are meeting your specific tax obligations, it's always advisable to consult official IRS resources and, if needed, a qualified tax professional.
