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Self-Employment Tax

Updated on April 22, 2024
Article byRatnesh Sharma
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

What Is Self-Employment Tax?

Self-Employment Tax refers to the tax payable by self-employed individuals toward Social Security and Medicare benefits. The ones to whom this taxation applies include sole proprietors, contractors and freelancers with  net earnings of $400 or more for the concerned tax period.

Self-Employment Tax Meaning

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This liability towards the federal government is reported through the file of Form 1040 Schedule SE. These taxes help self-employed individuals to fulfill their tax responsibilities and make sure to contribute in generating revenue for the economy.

Self-Employment Tax Explained

The self-employment tax includes only Social Security Tax and Medicare tax and no other taxes, including income tax. The basic tax structure is 12.4% for Social Security Tax & 2.9% for Medicare Tax, making it a total of 12.4+2.9= 15.3%

The Social Security tax also has two components – The employer pays social security tax of 6.2% & the employee pays social security tax of 6.2%. Thus, the self-employed person is required to pay for both rates. This makes the total social security tax rate 12.4%.

The breakup of the self-employment tax is available in the following table:

Rate 1

However, not the whole of net earnings is liable for the 15.3% self-employment tax rate. The first $ 137,700 is liable for social security tax only. Amount beyond $ 137,700 is liable for both social security tax as well as Medicare tax.

However, you are required to pay 0.90% for Additional Medicare in case the total earnings exceed $200,000 (in case of a single filer) or exceed $250,000 (in case of a joint filer).

Rate 1-1

In case additional Medicare tax is considered, the total Medicare tax becomes 2.9 + 0.9 = 3.8% in some instances. In that, the employment tax reaches 15.30+0.90= 16.20%

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How to Calculate?

Let us consider the following examples to understand how to calculate self-employment tax:

You can download this Self Employment Tax Excel Template here – Self Employment Tax Excel Template

Example #1

Self-Employment Tax Example 1

Solution:

Self-Employment Tax Example 1-1

Example #2

The TaxpayerTaxpayerA taxpayer is a person or a corporation who has to pay tax to the government based on their income, and in the technical sense, they are liable for, or subject to or obligated to pay tax to the government based on the country’s tax laws.read more has provided the following details:

Self-Employment Tax Example 2

Solution:

Self-Employment Tax Example 2-1

Deductions

The IRS has logically framed the self-employment taxation system by allowing business-related expenses to be deducted from the earnings. The tax deductions have been specified as follows:

How to Pay?

If one is sure to earn more than $ 400 a year, they should apply for a social security number (SSN), or taxpayer-identification number, or an employer identification number. These numbers help the federal government to identify them easily. The next step is to have the following self-employment tax forms.

Benefits

The advantages of the self-employment taxes are as follows:

Self-employment taxes - Benefits

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  • Self-employment tax shows the sensitivity of the person towards society.
  • It builds the nation with a higher quality of infrastructure.
  • The government can fund the expenses of a needy person through such a collection.
  • The tax rate is also the average and nominal.
  • Computations are easy for a layman with no ambiguities.
  • The individual is helping to build the nation.

Drawbacks

The disadvantages of this taxation system are as follows:

  • Risk of fraud of public money by politicians.
  • The tax is a cost for the tax paper. It should have been as per the slab rate system to be more beneficial.
  • Currently, the tax considers every earner on equal grounds which may be correct to assume.

Recommended Articles

This has been a guide to what is Self-Employment Tax. Here we explain its deductions along with how to pay, examples, and how to calculate. You may learn more about financing from the following articles –