Flying solo can be the ultimate business adventure. When you run your own business and you're the only employee, you truly hold all the cards and earn the freedom to achieve your ideal work-life balance. Working for yourself also brings tax advantages not available to those who work for others. It's important to understand the tax rules that apply to the self-employed to profit the most from these.
For information on the third coronavirus relief package, please visit our “American Rescue Plan: What Does it Mean for You and a Third Stimulus Check” blog post.
Run your business like a business
Butcher, baker, candlestick maker—the list of businesses and trades for solopreneurs goes on and on. If you have expertise in a specific area and can make a living doing it on your own, you are in the enviable position of being your own boss.
Whether you're a freelance writer, a contract technology worker or a solo jewelry designer, remember that first and foremost, you are a business. You'll have to maintain:
- Accurate and up-to-date financial records
- Profit and loss statements
- Expense ledgers
- Detailed records of money received to know where your business stands financially
This way you'll have all the necessary information at your fingertips to file your tax returns.
Self-employed people must pay self-employment taxes
As a business, you are required to pay self-employment taxes, which include Social Security and Medicare taxes. These must be paid by anyone who works for himself or herself and earns $400 or more in 2020.
Self-employment taxes are assessed on a percentage of your net earnings. In order to calculate and pay this tax, you must first figure your net profit from your business.
Schedule and keep current with estimated tax payments
Our tax system is pay-as-you-go. If you work for someone else, your boss withholds a percentage of your paycheck for taxes and sends that money to the taxing authorities on a regular basis.
As a solopreneur, you have the responsibility of paying quarterly estimated tax payments for both income tax and self-employment taxes. If you fail to make these periodic payments or you underreport your income, you may be subject to penalties and interest.
Missouri freelance writer Kristi Waterworth Hemmann says that keeping current with estimated tax payments requires discipline. "I really try to stay on top of this," Hemmann says. "You have to plot out the due dates and write out the checks, even if it hurts. You'll be glad when tax time comes around."
Contributions to retirement plans can reduce your taxable income
The government also wants to help fund your retirement. One of the top business tax breaks for solopreneurs is for making contributions to your own retirement plan. This may be the most valuable tax break available to the self-employed.
If you are in business for yourself and have no employees, consider setting up an individual 401(k) plan.
- For 2020, you can contribute up to $19,500 in pre-tax earnings to a 401(k) plan, plus an additional $6,500 if you're 50 or older.
You also can contribute up to 25% of your net self-employment income—up to a total of $57,000 for 2020—into a retirement plan like a Simplified Employee Pension plan, or SEP-IRA.
Take full advantage of all available business tax deductions
As a solopreneur, you can write off far more business expenses than employees even dream about, and you'll want to take advantage of every one of them. Learn about the deductions available to self-employed individuals to find out which ones you can benefit from.
The IRS defines deductible expenses as any and all expenses that are ordinary and necessary for your business. A few common business deductions you won't want to miss include:
- Expenses related to the business use of your home, including:
- Certain amount of rent
- Internet service
- Business use of your vehicle based on business automobile expenses or the standard IRS allowable mileage rate for your tax year.
- Depreciation of some property and equipment you purchase.
Don’t worry about knowing which tax forms to fill out when you are self-employed, TurboTax Self-Employed will ask you simple questions about you and your business and give you the business deductions you deserve based on your answers. TurboTax Self-Employed uncovers industry-specific deductions. Some you may not even be aware of.