If you work from home, you need to know how to qualify for the home office deduction, pay self-employment taxes and understand which business expenses you can take deduct.
• As a self-employed individual, you’re likely required to make quarterly estimated tax payments throughout the year to cover your federal tax liability.
• When you’re self-employed, you must pay both the employer and employee portions of the Social Security and Medicare taxes you owe—a total of 15.3 percent on the first $160,200 of your net earnings from self-employment in 2023. This limit increase to $168,600 for the 2024 tax year.
• You typically can deduct a wide range of business expenses to lower your taxes, provided these are ordinary and necessary expenses for your business.
• If you use a portion of your home "exclusively and regularly" for your business, you likely can take a deduction for a home office.
Being your own boss
Don’t listen to the naysayers who tell you that taking the home office deduction is a red flag for an IRS audit. Congress created these tax breaks and we’ll show you how to take advantage of them.
Going from employee to self-employed
Hard to believe, but you can get a tax break for staying in your pajamas and fuzzy bunny slippers to run your business.
Many people who leave jobs—either voluntarily or following a lay-off—choose to start their own business and work out of their homes. Once you switch from life as an employee to become an independent contractor, your tax situation also changes. Here are several things you can do to keep your tax house in order:
Estimated tax payments
Your employer used to take care of withholding your income taxes from you paycheck and sending payments to the IRS. But once you're self-employed, it'll be up to you to make estimated tax payments to the IRS during the year to cover your federal tax liability. Normally you can skip making estimated tax payment if you expect to owe less than $1,000 when you do your taxes. You can use quarterly payments quarterly using Form 1040 ES or make payment online at the IRS website.
Uncle Sam takes a bigger bite out of your income, employment-tax wise, when you’re on your own. To cover your Social Security and Medicare taxes, in 2023 you'll owe Uncle Sam 15.3 percent on the first $160,200 of your net earnings from self-employment. This Social Security wage limit increases to $168,600 for the 2024 tax year.
When you net self-employment income exceeds the Social Security wage limit, you'll still owe Medicare tax of 2.9 percent and perhaps an additional 0.9 percent for the Additional Medicare Tax. The additional tax is for those making above $250,000 for married filing joint filers ($125,000 for married filing separately) while other filing status taxpayers see the additional tax when their income goes above $200,000.
But there's good news: You can deduct half of your self-employment taxes (but not the Additional Medicare Tax) when figuring adjusted gross income on your 1040. So if you're in the 25 percent federal income tax bracket, the government effectively refunds 12.5 percent of the Social Security tax you pay.
TurboTax Tip: An easy way to keep your business expenses separate from your personal expenses is to set up a separate bank account for your business and have a credit card you use only for business purchases.
Don’t throw away those receipts!
You can write off a long list of business costs—everything from business meals to insurance to bad debts—so it's important to maintain good records of those expenses to get all the tax deductions you're entitled to. And because you can't deduct personal expenses, you must be sure to keep your business expenses separate. An easy way to do this is to set up a separate bank account for your business, and have a credit card you use only for business purchases.
Home office deduction
If you're working from home, deducting the costs associated with your home office can be a big tax saver—but the rules are tricky.
To get the deduction, the law requires you to use your home office "exclusively and regularly" for your business. It must be an area in your home where you don't mix business with other activities. In other words, the kids can’t play and you can’t watch a lot of football in the same area as your workplace. So put that big-screen TV somewhere else in the house.
The office also has to be your principal place of business or a place you meet regularly with clients or patients. What if you’re on the road a lot for business? No problem. You can qualify even if you spend most of your work time away from the office—such as a self-employed plumber who spends most of his time working at clients' homes—as long as you conduct administrative and management activities in your home office and don't use any other fixed location to do those activities. If you qualify for home office deductions, the write-offs will help pay for what would otherwise be considered personal expenses, such as part of the cost of utilities, mortgage interest, property taxes, and homeowner's insurance premiums.
More options for retirement saving
Working in your pajamas is still work.
So plan now for full-time relaxation later and start a retirement plan, which is another great tax saver. And once you're self-employed, your options go far beyond an individual retirement account. Check out an SEP (Simplified Employee Pension), SIMPLE (Savings Incentive Match Plan), and Keogh as well as individual 401(k) plans. All allow you to sock away money for retirement and take a tax deduction for what you contribute.
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