Q: Okay, so I have determined that I am an independent consultant not an employee. As a self-employed individual what am I liable for?
smp: You have to pre-pay federal taxes to at least the 90% level. This includes income tax and social security tax. For social security tax you are liable for the "employee" half as you always have been, but you are also responsible for the "employer" half. However, you can deduct half the employer portion on the form you use to calculate social security tax liability.
Q: So you have to include social security taxes when you calculate the 90% threshold?
smp: Yes. It’s 90% of total tax liability. That includes all the other miscellaneous taxes that show on the Form 1040 (like alternate minimum tax) although most people don’t get into those.
If you keep your self-employed income below $400 for the year after deductions you don’t have to pay social security tax at all. This can be especially important in a year when you might elect to take a Section 179 write-off.
Q: Before we talk about Section 179 and deductions, what other taxes do we need to consider beyond income tax and social security tax?
smp: You really need to contact your local authorities on this. Washington State has a Business and Occupation tax, although it has a pretty high exemption for small businesses. Indiana has a gross receipts tax. Many states have a state income tax.
There is also the business license. You need one from the state and another from the city in which you live. You may also need one for the other cities in which you do work even if you don’t live there. Depending on what you consult on you may also need professional registration.
Q: But all those license fees are deductible as business expenses, right?
Q: What about Unemployment Insurance taxes?
smp: Since you are self-employed you are not covered by unemployment insurance. That only applies if you hire employees. In that case you would have to pay both unemployment and workers compensation for them. You, as a sole-proprietor, aren’t eligible for unemployment or disability, even if you are paying yourself a salary.
Q: I assume that we would report this income on the Schedule C attached to our Form 1040.
smp: Correct. As a sole proprietor you would. It’s different, of course, for anyone who has incorporated their consulting business.
To be continued ...
In Part 2 of this interview we will discuss the positive side of self-employment tax issues - deductions for business expenses.