Self-Employment Tax

Categories: Tax

You're a shrink. You got your PhD in Psych, and your MD (so you can prescribe drugs...legally). You bill patients $400 an hour to whine to you about their mothers, and you put a loving balm in a bow and tie it up nicely so they don't jump off the ledge (this week). You're a professional. You work for yourself. You are self-employed. And this is both cool...and a drag. Were you working for some large mama corporation, you'd be able to just have some secretary do your taxes, and take your withholding. And it's likely you'd just be on a salary of a few grand a week to do your thang. But as an entrepreneur, doing your own thang, you do all that...yourself.

It gives you freedom to be creative and spend your practice's profits as you wish. Like...you really have been missing Maui, and there's The Headshrinker Ball for a week there in January. You're gonna go. It's a business trip. Legit. All kinds of drug vendors there selling everything from Zoloft to Lexapro. The trip is totally tax-deductible. And what about that new fancy computer? You want it. You buy it. It's a business expense, but yes, you'll enjoy it...personally. Oh, and your car? Yes, you get to deduct a lot of those expenses as well.

Well, the IRS ain't stupid (usually). So to get around or make up for the fact that, as an independent business, you get to choose to take allllll kinds of deductions that you couldn't take if you were working for a big corporation, you pay a self-employment tax. Think: 10-12 grand-ish a year for the privilege of being able to be independent and write off all the things you want to buy that are businessish deductions. And keep you sane (for your likely less sane clients) at 8 bucks a minute.

Related or Semi-related Video

Finance: What is SEP?5 Views

00:00

Finance allah shmoop what is s e p or sepp

00:07

what's that i'm sorry we had to go there Think

00:10

simplified employee pension plan except it's basically a personalized pension

00:16

plan for business owners and is kind of a form

00:19

of an ira The company contribute some amount of money

00:22

to the sep and they get a tax deduction like

00:24

they can deduct that is just a normal expense of

00:27

running The business like engine is part of your normal

00:30

operating costs You're running a business That amount of money

00:32

is generally capped as a percentage of the total compensation

00:36

given to the employees And step is an obvious tax

00:39

deferment system for sole proprietors who can take advantage of

00:42

this delay in pink tax is a kind of way

00:45

to fund their own retirement The big catch here is

00:48

that what the big boss pays herself while she has

00:51

to pay to her employees as well Or rather she

00:53

has to contribute the same percentage to their set that

00:57

she has for her own compensation when the step is

01:01

finally distributed often decades later those distributions are then taxed

01:05

at normal ordinary income tax rates So yeah if you

01:09

own a small chain of dry cleaners shops specializing in

01:12

removing blood stains from clothing of mafia victims Well then

01:16

you probably have enough money where it makes sense to

01:19

set up your own set plan That way you can

01:22

defer income and taxes on that income to a much

01:25

later date when presumably your marginal tax rate will be

01:29

lower than it is today That is if today you've

01:32

earned two hundred grand and you're marginal tax rates forty

01:34

five percent then you only keep fifty five cents on

01:38

the last dollars that you earn But a couple of

01:41

decades from now well you might be retired having already

01:44

put your kids through assassins college and now instead of

01:47

needing one hundred sixty three thousand dollars a year in

01:51

net income after taxes while you live just fine on

01:54

fifty grand So as you distribute back to yourself you're

01:57

sepp which works just like that I remember instead of

02:00

paying forty five percent tax on that marginal dollar you've

02:04

distributed back to yourself Well now you only pay something

02:06

like twenty percent tax so you keep eighty cents on

02:09

those last dollars instead of only fifty five Well a

02:13

set plan highly encourages people to save for old age

02:17

or retirement The key differences between a normal ira and

02:20

accept well in a seth you the business owner are

02:23

the employer so only you contribute money to the sep

02:27

like in normal cos one of the big benefits the

02:30

company provides is matching a dollar for a dollar in

02:33

ira contributions So if you're saving five grand a year

02:37

into your eye right while your company with unlikely contribute

02:40

an additional five grand into it So yeah in a 00:02:43.75 --> [endTime] nutshell that is wass ab sip Maybe not Whoa

Find other enlightening terms in Shmoop Finance Genius Bar(f)