Self Employed

What It Means To Be An Independent Contractor, Self Employed.

Independent Contractor - This means you are self-employed and running your own business. You are responsible for paying your own taxes.

The following covers the tax basics of being self-employed. This is not a total discussion covering everything there is to know. It is an outline of definitions and the answers to the most commonly asked questions about taxes and requirements for being self-employed.

You and the person paying you [your agency, referral service, or customers] have a contract. The contract is a legal agreement which should be discussed with a lawyer, not your tax preparer or friends. You should seek professional advice if you have questions. Both the state and the federal government offer classes regarding the details of running your own business. Classes or workshops may also be available at your library, local high school, or college.

  1. Income

    1. If your income is reported to the government by your agency or customers or 3rd party merchant services, it will be on a form 1099. There will be no payroll taxes withheld. You are taxed on your Net Profit, the income left after you have deducted allowable business expenses.
  2. Business Expenses - Deductions from your business income. Below are general categories. Each business has its own specific deductions.

    1. Car & Mileage - car/bus costs - DMV, insurance, gas, repairs, car rentals, AAA, carwashes, lease payments, etc.
    2. Equipment - larger items lasting longer than one year and costing over $2500 must be capitalized.
    3. Business supplies - including small equipment and tools - that are ordinary and necessary to complete your work.
    4. Other costs - telephone, office, printing, computer, insurance, legal, equipment repairs, accounting, parking, postage, etc.
    5. Paid helpers - you need to either put them on payroll or find out if they too are independent contractors. Ask your tax professional for help with this.
    6. Home Office - If your home is used for making appointments, record keeping and storage of supplies and you do not rent a separate office.
      1. A percentage of your home costs is taken based on your:
        1. Rent/mortgage paid
        2. utilities paid
        3. repairs
        4. security
        5. home insurance
  3. How you will be taxed: You are taxed on your Net Profit.
    Income minus Business deductions = Net Profit.
    You will be taxed in several ways.

    1. Self-Employment Taxes This is 15% of your net profit. NOTE: This tax is owed even if you do not have to pay federal or state income tax. Only business deductions and home office allowed reduce this tax.
    2. Federal income tax [the IRS, Internal Revenue Service] - this is an additional tax paid on your net profit. It can range from 10%-28% depending on if you are married and if there is other income you are taxed on e.g. interest, a second job, unemployment, dividendsÂ…..
    3. State income tax [the FTB, Franchise Tax Board]- this is an additional tax paid on your net profit. It can range from 2%-8% depending on if you are married and if there is other income you are taxed on
    4. City Business Tax/License - Fees depend on type of business and what city. You need to call your city hall and find out how to file.
  4. Record Keeping

    1. Use a separate bank account - It is best to keep all your business income and expenses separate from your personal/household expenses and income.
    2. Credit card - If you use one, have one dedicated for your business.
    3. Receipts for expenses - KEEP THEM ALL. Sort them by category e.g. telephone, printing, postage, supplies etc.
    4. You need to keep your records for 7 years.
  5. How to pay your taxes:

    1. You are required to pay your taxes to both the state and federal in four payments per year.
    2. Payments are due Apr 15th, Jun 15th, Sep 15th, and Jan 15th of the following year.
    3. It takes awhile to determine how much to pay each time. For starters, as a general rule, you should be setting aside 18% of the business income that you receive in a separate savings account. The actual amount can be adjusted up or down by working with your accountant/tax preparer. He or she will help you determine the right amount to pay.
    4. This same person can give you the papers [estimated tax vouchers] to be sent to both the IRS and the FTB with your check each time.
  6. Tax forms:

    1. You will have a form called Schedule C as part of your tax return to report your income and business expenses. There are other forms for childcare credit [form 2441], car usage [form 4562 or 2106], and home office usage [form 8829]. Be sure that your tax preparer goes over all of these items with you.
  7. Childcare credit - this is only a deduction for federal and state income tax, not a business expense that reduces self-employment tax. It is for childcare while you work. You need to have information about each place or person that you paid:

    1. Name
    2. Tax ID number or social security number
    3. Address
    4. Telephone number
    5. Amount paid
  8. Insurance - There are several types you need to consider buying for yourself.

    1. Liability Insurance - Business insurance to cover costs if something happens while you are working such as accidentally breaking something that belongs to the customer you are working for. This is a business deduction and reduces your net profit & self-employment taxes. You should contact an insurance broker to buy this.
    2. Unemployment Insurance - you are not eligible to receive this from the state because you are self-employed.
    3. Disability Insurance - If you are temporarily unable to work because of something that happened outside of work, this gives you a small amount of weekly income while you can't work [usually 6 - 10 weeks]. You can get this from the state at a low cost. It is not a business deduction, but will give you some income if you are temporarily unable to work. For example being pregnant or having a broken arm or leg.
    4. Health Insurance - If you pay for a health insurance policy, the premiums may be a deduction.
  9. Retirement plan contribution - this is an amount of money set aside in an account that will be used for the time when you retire at age 59 or older.

    1. You do not pay income taxes on the money you set aside. It does not reduce the self-employment tax you pay on your net-profit. For the details and differences please see your tax preparer, banker, and/or stock broker.
    2. Speak with your tax professional regarding how much you can contribute.
    3. The three most common types are a
      1. Traditional IRA
      2. i-401(k)
      3. SEP IRA

This is intended to be a basic outline not a complete discussion of what being an independent contractor is. Your tax return is affected by many things. Each one is individual. This is meant as a starting point for you to understand how to run your business. You can find more information in IRS publications #535, #463 and #17. These and other publications are available over the internet. Please seek education and professional help with your questions from your local school, lawyer, insurance broker and tax professional.