Taxes Made Simple

After a few years of paying self-employment tax and making quarterly estimated tax payments, you probably don’t think being self-employed is making your life better when it comes to taxes.  I’d be inclined to agree that being self-employed creates more tax work, but when it comes to our out-of-pocket amount, I think we entrepreneurs have an advantage.  Allow me to explain.

Of course, the first thing to discuss is the self-employment tax.  Somebody new to sole proprietorship might understandably think that self-employed taxpayers are at an unfair disadvantage here.  What many do not realize is that the self-employment tax is really just the social security and Medicare taxes (which everybody has to pay) combined.  Granted, the SE tax (at 15.3%) is the equivalent of both the employer’s half and the employee’s half (at 7.65% each) put together.

A case could be made that we entrepreneurs would have 7.65% more in take-home income if we were employees (because our employers would be paying their half of the social security and Medicare taxes).  However, I think it’s safe to say that the majority of employers take this tax into consideration when determining how much they can/will pay an employee, and as such reduce the salary offered by a roughly equivalent amount.  Also, sole proprietors are allowed an “above-the-line” deduction for one-half of the self-employment tax they pay each year.  In other words, I’d argue that our take-home income is actually higher, all things considered.

Second, for those taxpayers who have a qualifying home office, several personal expenses suddenly become deductible (in part) as business expenses.  In fact, many of these expenses that you can partially deduct due to your home office are expenses that you would be paying for regardless of your business (homeowner’s insurance, utilities, etc).  Any money saved on taxes here is pure profit.

Third, sole proprietors are offered an abundance of retirement savings methods that are not available to taxpayers with “real jobs.”  In addition to the standard Roth IRA/traditional IRA options, business owners can contribute to SEP IRAs, SIMPLE IRAs, profit sharing plans, money-purchase, plans, solo 401(k)s, and more.

Finally, while estimated tax payments are certainly a bit of a pain, the estimated tax system allows the savvy entrepreneur an opportunity to earn a little more income than other taxpayers.  For taxpayers who work as employees, money is withheld for taxes every time they get a paycheck.  For those of us who are self-employed, we only need to make tax payments at the end of each quarter (roughly).  As such, if we’re smart enough to have our receipts from clients deposited into interest-bearing accounts (or other investments), our money has additional time to grow.

So next time you find yourself struggling to determine whether or not something is going to be deductible or mailing off a check for your estimated taxes, don’t moan and groan too much.  Comparatively speaking, you’ve got it good.

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