Income Taxes for Independent Contractors and the Self-Employed
The self-employed pay taxes a little differently than employees do. If you are an employee, then your employer is required to withhold income tax, as well as Social Security and Medicare taxes from your pay. But If you are self-employed, then you are required to pay these taxes on your own, either through quarterly estimated tax payments or when you file your tax return at the end of the year.
What Is Independent Contractor Income?
Independent contractor income is compensation you receive for doing work or providing services as a self-employed individual, not as an employee.
Non-employee compensation is reported on Form 1099-MISC (along with rents, royalties, and other types of income). If you received a 1099-MISC instead of a W-2, it means that you are probably not an employee. A 1099-MISC means that you are classified as an independent contractor, and independent contractors are self-employed.
Am I Self-Employed?
You are considered self-employed if you carry on a trade or business (not just a hobby), and any of the following statements are true:
You are an independent contractor (your income is reported on a Form 1099-MISC)
You are the sole proprietor of a business
You are a member of a business partnership
You are otherwise in business for yourself (whether full-time or part-time)
Am I an Independent Contractor?
Every situation is unique, but in general, you are considered an independent contractor if the person or organization that pays you has the right to direct and control only the result of the work and not what work will be done nor how it will be done. An independent contractor is self-employed.
Typical examples of independent contractors include: doctors, dentists, veterinarians, lawyers, accountants, public notaries, carpenters, electricians, plumbers, mechanics, stonemasons, home remodelers, housecleaners, lawn care providers, babysitters, newscarriers, software developers, web designers, graphic artists, entertainers, guest speakers, truckers, cab drivers, farm workers, interpreters, project managers, hairstylists, salespeople, freelance writers, etc.
Am I Carrying on a Trade or Business?
A trade or business, in general terms, is an activity carried out to make a profit. Even if you don't actually actually make a profit, you are still carrying out a trade or business as long as your motive is to make a profit and you make regular, ongoing efforts to further the interests of your business. A trade or business may be full-time or part-time, and it may be carried out in addition to regular employment.
Am I Engaged In a Hobby?
A hobby is not a trade or business. If you carry on an activity that occasionally produces income, but your main purpose for pursuing the activity is not for profit, then you may be engaged in a hobby. Hobby income should be reported as "other income" on your tax return. If you itemize deductions, you can deduct hobby expenses up to the amount of your hobby income.
Why Am I Considered Self-Employed and Not an Employee?
Whether you are considered employed (an employee) or self-employed (an independent contractor) depends on 3 main factors:
Does the company or organization for which you work have the right to direct and control what work you do and how your work is done, using instructions, training, or other methods? If you direct and control your own work, you are probably self-employed.
Do you receive training or extensive supervision? If the company can control not only what work is done, but how the work is performed, then you may be an employee.
Do you receive specific instructions on how, when, and where to perform your job? If so, you may be an employee.
Are you told what tools or equipment to use, what assistants to hire, or where to purchase supplies or services? If so, you may be an employee.
You are probably self-employed if you have the right to direct and control the business and financial aspects of your job. When determining who has Financial Control, you should consider the following:
Do you have unreimbursed business expenses? If you are not reimbursed, you may be self-employed.
What is the extent of your own investment in the facilities, equipment, or tools used in performing your job? A significant investment means you may be self-employed.
Do you make your services available on the open market? If so, you are probably self-employed.
Do you set your own rates and prices for your services? If so, you are probably self-employed.
How does the company pay you? Are taxes withheld? If not, you are probably self-employed.
Can you both realize a profit and incur a loss? If it is possible for you to incur a loss, then you are probably self-employed.
Type of Relationship
To determine the type of relationship that exists between you and the business (whether you are an employee or an independent contractor), it is important to consider the following:
Are there contracts that describe the working relationship between you and the company? How do these documents characterize your role in the business?
Are you given employee benefits, such as insurance, pension, paid vacation, and sick pay? If so, you are probably an employee.
Is the business relationship expected to be permanent, or at least relatively long-term? If so, you may be an employee.
Are the services you provide a key aspect of the regular business of the company? If not, you may be self-employed.
If you would like the IRS itself to determine whether you or someone you pay are considered an employee or an independent contractor, you can file Form SS-8 - Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding.
I Am Self-Employed. What Taxes Do I Have to Pay?
As a self-employed individual, you are responsible for paying income taxes and self-employment taxes.
Because you do not have taxes withheld from your pay by an employer, you may have to pay estimated income tax 4 times throughout the year (quarterly).
What Are Self Employment Taxes?
Self-employment taxes are paid in addition to regular income taxes. Self-employment tax is made up of Social Security and Medicare taxes.
How Do I File Self-Employment Tax?
You calculate your self-employment tax using Schedule SE when you file a tax return. Attach Schedule SE to your return when you file it. The efile.com software will generate Schedule SE for you.
Do I Have to Pay Estimated Taxes?
If you are self-employed, and you expect to owe $1,000 or more in tax when you file your return, then the IRS requires you to make quarterly estimated tax payments.
Estimated tax payments are used to pay income tax and self-employment tax. If you do not pay enough tax through withholding and/or estimated tax payments to cover your tax liability, then you will be charged a small penalty by the IRS. The tax penalty is calculated on your tax return, and added to the amount you owe (or subtracted from your refund).
How Do I Pay Estimated Taxes?
You calculate and make estimated tax payments using Form 1040-ES efile it, which is really more of a booklet than a form. Use the included worksheet to figure the amount of your estimated tax payments. You don't have to send this worksheet to the IRS, but they recommend that you keep it for your records.
The booklet also contains four payment vouchers, which you can use to make your quarterly payments, if you are paying by check or money order. Just fill out the appropriate voucher and enclose it in the envelope with your check or money order made out to "United States Treasury". You can find the correct mailing address to use on the "Where to File..." chart included in the 1040-ES booklet.
Alternatively, you can make your estimated tax payments electronically online. You can pay online using a credit card, debit card, or electronic funds withdrawal. If you make your payments online, you do not have to mail vouchers to the IRS. To pay online, go to www.irs.gov/epay.
When Do I Pay Estimated Taxes?
There are four estimated tax payment periods, each with its own due date:
January 11 – March 31
April 1 – May 31
June 1 – August 31
September 1 – December 31
January 15 (of the following year)
If you are making an estimated tax payment by mail, your payment will be considered on time if it is postmarked on the due date. If the due date falls on a Saturday, Sunday, or legal holiday, you will be on time if your payment is made on the next business day.
Note that you can make more than four estimated tax payments per year if you want to or need to. Just make a copy of a payment voucher or pay online. But make sure that you pay enough by each due date to cover the preceding payment period.
Do I Have to File a Tax Return?
Regardless of your W-2 income or your filing status, if you earned a net income of $400 or more from self-employment during the year, then you are required to file a tax return. Net self-employment income is your income after deducting allowable expenses. See the tax filing requirements.
How Do I Report Self-Employment Income on My Tax Return?
As a self-employed taxpayer, you will need to prepare your tax return using Form 1040 efile it. Generally, you will also fill out one or more Schedules C or Schedule C-EZ, and also Schedule SE.
What Is Schedule C?
When you prepare your tax return, you will generally use Schedule C to report your income and deductible expenses.
Can I File Schedule C-EZ?
Schedule C-EZ is a simplified version of Schedule C. You can use Schedule C-EZ instead of Schedule C if all of the following are true:
Your total expenses are not more than $5,000.
You have no employees.
You have no inventory.
You are not using depreciation.
You are not deducting the cost of your home.
When you efile, you must fill out all of the information for a Schedule C. If the Schedule C is simple enough and meets IRS requirements, a Schedule C-EZ will be automatically generated by the efile.com software.
Do I File Schedule SE?
When you file a tax return as a self-employed individual, you use Schedule SE to calculate the self-employment tax you owe. Also, the Social Security Administration will use your Schedule SE to figure your Social Security benefits.
Do I Have to Pay Self-Employment Tax?
In general, you must file Schedule SE and pay self-employment tax if your net self-employment income is $400 or more.
Self-Employment Tax for Church Employees
If you had $108.28 or more in church employee income, then you must pay self-employment tax. Church employee income is income received from a church or church-controlled organization, not including income paid to ministers or members of religious orders.
Self-Employment Tax Exemption for Some Ministers
If you are a minister (or priest, rabbi, etc.), a member of a religious order NOT under a vow of poverty, or a Christian Science practitioner, and you have a conscientious objection to Social Security insurance, you may exempt your net earnings from self-employment tax by filing Form 4361.
Self-Employment Tax Exemption for Some Religious Sects
Under certain circumstances, if you have a conscientious objection to Social Security because of your membership in a religious sect, you may be able to exempt your net income from self-employment tax by filing Form 4029.
Do I Get a Self-Employment Deduction for Health Insurance?
If you were self-employed, you may be able to deduct the cost of health insurance premiums you paid for a child of yours who was under age 27 at the end of 2012. Find out more about this tax deduction for parents.
Special Rules for Some Self-Employed Individuals
If you work as a newspaper delivery person, paperboy (or girl), or newscarrier, you are usually considered self-employed if:
You deliver or distribute newspapers or perform related tasks, such as soliciting customers.
Your pay is based on sales or other output and not on the number of hours you work.
You work under a contract which states that you are not an employee for federal tax purposes.
If you meet all of the above requirements, then you are generally considered self-employed. Even if you are under age 18, you will have to pay into Social Security and Medicare by paying self-employment tax.
If you are under age 18 and you do not meet all of the above requirements, then you generally do not have to pay self-employment tax.
Babysitters and in-home child-care providers are generally self-employed and subject to self-employment tax.
If you are a babysitter and you perform work in your home or in the homes of your clients, and you substantially control the manner in which you do your job, then you are most likely self-employed.
A Nanny, au pair, or other child-care provider that lives in their client's home, and that does not control the manner in which they perform their work, may be a household employee.
Ministers, Clergy, and Members of Religious Orders
If you receive salaries, fees, allowances, or other compensation (housing, food) for doing work as a minister or member of a religious order, you generally have to pay self-employment tax on your income.
You may exempt your ministerial income from self-employment tax if you file Form 4361 and you receive an approval from the IRS. Income derived from other sources may still be subject to self-employment tax.
Husband and Wife Businesses (Qualified Joint Ventures)
In general, a husband and wife who jointly own an unincorporated business must file taxes for the business as a partnership. But partnership tax returns and recordkeeping can get very complicated. So the IRS has made an exception.
If a husband and wife are the only members of a joint venture (a fancy name for a business owned by two or more people), then they may agree together to elect for their business NOT to be treated as a partnership for federal tax purposes. Instead, it will be a Qualified Joint Venture. Now the couple files a joint tax return and prepares a separate Schedule C for each spouse, taking into account each spouse's share of income and loss derived from the business, as if they were each a sole proprietor.
Only couples that are Married Filing Jointly can elect for their business to be a Qualified Joint Venture. Corporations and LLC's do not qualify for this election.
What Is a Statutory Employee?
There are a few special cases where, even though you fit the definition of an independent contractor, you are considered a statutory employee (an employee by statute) for tax purposes. If you are a statutory employee, your employer is not responsible for withholding income taxes from your pay, but Social Security and Medicare taxes will be withheld.
To be considered a statutory employee, all 3 of the following statements must be true:
There is a service contract that states or implies that substantially all the services covered by the contract are to be performed personally by you.
You do not have a substantial investment in the tools, equipment, or other property used to perform the services (other than vehicles or transportation facilities).
Your services are performed for the same payer on a continuing basis.
In addition, at least one of the following statements must be true:
You are a driver who distributes beverages (not including milk), meat, vegetable, fruit, or bakery products.
You are a driver who picks up and delivers laundry or dry cleaning.
You are a full-time life insurance sales agent, working primarily for one company.
You work at home with materials or goods which are supplied by your employer and that must be returned to your employer, who also provides specifications for the work that you do.
You are a full-time traveling (or city) salesperson who turns in orders to your employer from wholesalers, retailers, contractors, hotels, restaurants, etc., and the goods you sell are merchandise for resale or supplies for use in the buyer’s business.
You are a volunteer officer of an exempt organization who is paid by reimbursement or an allowance (unless you have to make an accounting of your expenses and pay the organization back the excess amounts).
I Am a Statutory Employee. How Do I File a Tax Return?
As a statutory employee, you will generally receive a W-2 from your employer. You must file your return on a Form 1040, and you will need to use Schedule C (or Schedule C-EZ) to report your income and expenses. You will not need to worry about Schedule SE, because your employer will have withheld Social Security and Medicare taxes from your pay.
I Am Self-Employed. How Do I File a Tax Return?
As a self-employed taxpayer, you will file your return on a Form 1040, and you will generally need to attach Schedule C (or Schedule C-EZ) and Schedule SE to your return.
Whether you are an independent contractor or a statutory employee, efile.com makes it easy to prepare and efile your tax return. The online software will select the appropriate forms for you and help you fill them out correctly, then perform all calculations with 100% accuracy.