What is Self-Employment Tax?

What is Self-Employment Tax?

Self-employment tax (SE tax) is a social security and Medicare tax primarily for individuals who work for themselves. It is similar to the social security and Medicare taxes withheld from the pay of most wage earners.

You figure SE tax yourself using Schedule SE (Form 1040). Social security and Medicare taxes of most wage earners are figured by their employers. Also you can deduct half of your SE tax in figuring your adjusted gross income. Wage earners cannot deduct social security and Medicare taxes.

SE tax rate. The self-employment tax rate is 15.3%. The rate consists of two parts: 12.4% for social security (old-age, survivors, and disability insurance) and 2.9% for Medicare (hospital insurance).

Maximum earnings subject to SE tax. Only the first $102,000 of your combined wages, tips, and net earnings in 2008 is subject to any combination of the 12.4% social security part of SE tax, social security tax, or railroad retirement (tier 1) tax.

All your combined wages, tips, and net earnings in 2008 are subject to any combination of the 2.9% Medicare part of SE tax, social security tax, or railroad retirement (tier 1) tax.

Fiscal year filer. If you use a tax year other than the calendar year, you must use the tax rate and maximum earnings limit in effect at the beginning of your tax year. Even if the tax rate or maximum earnings limit changes during your tax year, continue to use the same rate and limit throughout your tax year.

Self-employment tax deduction. You can deduct half of your SE tax in figuring your adjusted gross income. This deduction only affects your income tax. It does not affect either your net earnings from self-employment or your SE tax.

How to Pay Self-Employment Tax

To pay SE tax, you must have a social security number (SSN) or an individual taxpayer identification number (ITIN). This section explains how to:

  • Obtain an SSN or ITIN
  • Pay your SE tax using estimated tax.

Obtaining a Social Security Number. If you never had an SSN, apply for one using Form SS-5, Application for a Social Security Card. You can get this form at any Social Security office or by calling (800) 772-1213. Download the form from the Social Security Online Web site.

Obtaining an Individual Taxpayer Identification Number. The IRS will issue you an ITIN if you are a nonresident or resident alien and you do not have and are not eligible to get an SSN. To apply for an ITIN , file Form W-7, Application for IRS Individual Taxpayer Identification Number.

Estimated Taxes

Federal income tax is a pay-as-you-go tax. You must pay the tax as you earn or receive income during the year. You generally have to make estimated tax payments if you expect to owe tax, including SE tax, of $1,000 or more when you file your return. There are two ways to pay as you go: withholding and estimated taxes. If you are a self-employed individual and do not have income tax withheld, you must make estimated tax payments.

Who Must Pay Self-Employment Tax?

You must pay SE tax and file Schedule SE (Form 1040) if either of the following applies.

  • Your net earnings from self-employment (excluding church employee income ) were $400 or more.
  • You had church employee income of $108.28 or more.

Your net earnings from self-employment are based on your earnings subject to SE tax. Most earnings from self-employment are subject to SE tax. Some earnings from employment (certain earnings that are not subject to social security and Medicare taxes) are subject to SE tax.

If you have earnings subject to SE tax, use Schedule SE to figure your net earnings form self-employment . Before you figure your net earnings, you generally need to figure your total earnings subject to SE tax.

Note: The SE tax rules apply no matter how old you are and even if you are already receiving social Security or Medicare.

Are You Self-Employed?

You are self-employed if any of the following apply to you.

  • You carry on a trade or business as a sole proprietor or an independent contractor.
  • You are a member of a partnership that carries on a trade or business.
  • You are otherwise in business for yourself.

Trade or business. A trade or business is generally an activity carried on for a livelihood or in good faith to make a profit. The facts and circumstances of each case determine whether or not an activity is a trade or business. The regularity of activities and transactions and the production of income are important elements. You do not need to actually make a profit to be in a trade or business as long as you have a profit motive. You do need, however, to make ongoing efforts to further the interests of your business.

Part-time business. You do not have to carry on regular full-time business activities to be self-employed. Having a part-time business in addition to your regular job or business also may be self-employment.

Example. You are employed full time as an engineer at the local plant. You fix televisions and radios during the weekends. You have your own shop, equipment, and tools. You get your customers from advertising and word-of-mouth. You are self-employed as the owner of a part-time repair shop.

Sole proprietor. You are a sole proprietor if you own an unincorporated business by yourself, in most cases. However, if you are the sole member of a domestic limited liability company (LLC), you are not a sole proprietor if you elect to treat the LLC as a corporation. For more information on this election and the tax treatment of a foreign LLC, see Form 8832, Entity Classification Election.

Independent contractor. People such as doctors, dentists, veterinarians, lawyers, accountants, contractors, subcontractors, public stenographers, or auctioneers who are in an independent trade, business, or profession in which they offer their services to the general public are generally independent contractors. However, whether these people are independent contractors or employees depends on the facts in each case. The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work and not what will be done and how it will be done. The earnings of a person who is working as an independent contractor are subject to SE tax.

You are not an independent contractor if you perform services that can be controlled by an employer (what will be done and how it will be done). This applies even if you are given freedom of action. What matters is that the employer has the legal right to control the details of how the services are performed.

If an employer-employee relationship exists (regardless of what the relationship is called), you are not an independent contractor and your earnings are generally not subject to SE tax. However, your earnings as an employee may be subject to SE tax under other rules discussed in this section.

For more information on determining whether you are an independent contractor or an employee, refer to the section on Independent Contractors vs. Employees

Earned Income Tax Credit

If you file a Form 1040 Schedule C, you may be eligible to claim the Earned Income Tax Credit (EITC). Learn more about EITC, or use the EITC Assistant to find out if you are eligible.

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