- Learn about pass-through tax deductions.
- Find out how to report income and expenses and pay self-employment taxes.
- Discover important deductions that can save you money!
- Find out how keeping good records can impact your tax bill.
- Learn about tax ID numbers and withholdings if you hire employees.
- Discover options for retirement plans as a self-employed individual.
Many people who start a small business begin as sole proprietors. There's a lot to learn when you're first starting out, so Fiducial has a quick list of nine tax rules and considerations involved in operating as a sole proprietor. Want to learn more? Need help getting off on the right foot? Fiducial can help! Read through these tips, then give us a call or click here to make an appointment now!
1. You may qualify for the pass-through deduction.
To the extent your business generates qualified business income, you, the sole proprietor, are eligible to claim the 20% pass-through deduction, subject to limitations. The deduction is taken “below the line,” meaning it reduces taxable income, rather than being taken “above the line” against your gross income. However, you can take the deduction even if you don’t itemize deductions and instead claim the standard deduction.
2. Report income and expenses on Schedule C of Form 1040.
The net income will be taxable to you, the sole proprietor, regardless of whether you withdraw cash from the business. Your business expenses are deductible against gross income and not as itemized deductions. If you have losses, they will generally be deductible against your other income, subject to special rules related to hobby losses, passive activity losses, and losses in activities in which you weren’t “at risk.”
3. Sole proprietors pay self-employment taxes.
For 2020, you pay self-employment tax (Social Security and Medicare) at a 15.3% rate on your net earnings from self-employment of up to $137,700, and Medicare tax only at a 2.9% rate on the excess. An additional 0.9% Medicare tax (for a total of 3.8%) is imposed on self-employment income in excess of $250,000 for joint returns; $125,000 for married taxpayers filing separate returns; and $200,000 in all other cases. Self-employment tax is imposed in addition to income tax, but you can deduct half of your self-employment tax as an adjustment to income. If you have questions about being a sole proprietor and self-employment taxes, call a Fiducial representative. We can talk to you about making sure you are withholding the correct amount and setting up a tax savings account so you are ready to make your tax payments on time.
4. Make quarterly estimated tax payments.
For 2019, these were due April 15, June 15, September 15 and January 15, 2020 and will similar for 2020.
5. You may be able to deduct home office expenses.
Small businesses and sole proprietors often start at home. If you are starting a small business and work from a home office, perform management or administrative tasks there, or store product samples or inventory at home, you may be entitled to deduct an allocable portion of some costs of maintaining your home. And if you have a home office, you may be able to deduct expenses of traveling from there to another work location.
6. You can deduct 100% of your health insurance costs as a business expense.
As a sole proprietor, this means your deduction for medical care insurance won’t be subject to the rule that limits medical expense deductions.
7. Keep complete records of your income and expenses.
Owning a small business and/or being a sole proprietor mean that you need to keep good records. Specifically, you should carefully record your expenses in order to claim all the tax breaks to which you’re entitled. Certain expenses, such as automobile, travel, meals, and office-at-home expenses, require special attention because they’re subject to special record-keeping rules or deductibility limits. Fiducial can help you set up a record-keeping system that will work for you.
8. If you hire employees, you need to get a taxpayer identification number and withhold and pay employment taxes.
9. Consider establishing a qualified retirement plan.
The advantage is that amounts contributed to the plan are deductible at the time of the contribution and aren’t taken into income until they’re are withdrawn. Because many qualified plans can be complex, you might consider an SEP plan, which requires less paperwork. A SIMPLE plan is also available to sole proprietors that offers tax advantages with fewer restrictions and administrative requirements. If you don’t establish a retirement plan, you may still be able to contribute to an IRA.
If you want additional information regarding the tax aspects of your new business or being a sole proprietor, or if you have questions about reporting or record-keeping requirements, Fiducial can help. Call us at 1-866-FIDUCIAL or make an appointment at one of our office locations. Ready to book an appointment now? Click here. Know someone who might need our services? We love referrals!