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What Is the Self-Employed Contributions Act (SECA) Tax?
The Self-Employed Contributions Act (SECA) tax is imposed by the U.S. government on individuals who are self-employed, as opposed to those who work for an employer. It requires self-employed individuals to pay both the employer and employee shares of the Federal Insurance Contributions Act (FICA) tax. These contributions are crucial for funding Social Security and Medicare programs, ensuring that self-employed workers are covered by these essential social safety nets just like traditional employees.
Key Takeaways
- The Self-Employment Contributions Act requires self-employed individuals to pay into the Social Security and Medicare tax funds.
- Since self-employed people act as their own employers, they're allowed to deduct the employer's share of SECA taxes as a business expense.
- Net earnings below $400 from self-employment don't trigger SECA tax.
- The total self-employed tax is 15.3%, which includes 12.4% of Social Security tax and 2.9% of Medicare tax.
Understanding the Self-Employed Contributions Act (SECA) Tax
SECA taxes are calculated on net earnings, defined as the gross income derived from business activities, minus the expenses incurred in the course of doing business.
Self-employed individuals pay Social Security taxes at a combined rate of 12.4%—this covers both the employer's and the employee's portions since they fulfill both roles. Self-employed taxpayers subject to SECA are taxed at 12.4% (6.2% + 6.2%), as they are considered to be both employer and employee.
There are limits, however, on how much income is subject to this percentage. This tax is capped, applying only to the first $160,200 of earnings in 2023 and increasing to $168,600 in 2024. Earnings above these amounts aren't subject to Social Security tax. The Medicare tax rate is set at 2.9%, with no cap on the income it applies to, bringing the total SECA tax rate to 15.3%.
An additional Medicare Tax applies to earnings above $200,000 (or $250,000 for joint filers), according to the IRS. Self-employed individuals can also deduct health insurance costs, affecting their net earnings calculation.
To pay self-employment tax, you need to have a SSN or ITIN, and tax payments are typically made through estimated tax payments each quarter.
You must pay self-employment tax on all earnings, including foreign income exempt from income tax. This applies to earnings from both within the United States and abroad. However, the U.S. has agreements with certain countries to avoid double taxation. To show you're exempt from foreign social security taxes but liable for U.S. self-employment tax, obtain a certificate of coverage from the U.S. Social Security Administration or a foreign agency and attach it to your Form 1040, noting your exemption.
Deducting the Self-Employed Contributions Act (SECA) Tax
The employer portion of the payment is deductible as a business expense. In other words, the IRS allows self-employed individuals to use the employer half of the self-employment tax as a business deduction for purposes of calculating the taxpayer's income tax. This takes into account that the efforts of running a company are taken on by an individual, rather than an employer, which would be the case for an employee of a company.
It is important to understand that this deduction impacts your income tax calculation without changing your self-employment net earnings or the self-employment tax you owe. Deducting half of the self-employment tax only modifies how your income tax is computed, not your earnings or the self-employment tax due.
High-income earners face an additional SECA levy. As a result of the Affordable Care Act (ACA), individuals with a net income above $200,000 ($250,000 for married couples filing jointly or $125,000 for married couples filing separately) will be subject to an additional 0.9% Medicare tax. It applies to wages, self-employment income, and railroad retirement compensation.
Paying the Self-Employed Contributions Act (SECA) Tax
The IRS mandates that self-employed individuals include SECA tax in their quarterly estimated tax payments since they don't have withholding taxes. No SECA tax is due for net earnings below $400 or $108.28 from certain church-related work that's exempt from employer taxes. However, once earnings exceed these amounts, SECA tax is due on the full earnings, even the portion below the threshold.
How Much Tax Do You Pay If You Are Self-Employed?
The total tax you pay if you are self-employed is 15.3%. This is made up of Social Security tax (12.4%; both from the employer and employee's side of 6.2% each) and Medicare tax (2.9%; both from the employer and employee's side of 1.45% each). You are liable for an additional 0.9% Medicare Tax if your earnings or combined earnings with your spouse exceed certain thresholds—$250,000 for married filing jointly, $125,000 for married filing separately, and $200,000 for single, head of household, or qualifying widow(er).
How Do I Avoid Paying Taxes If I am Self-Employed?
As a self-employed individual, it's mandatory to pay taxes, and evading this responsibility constitutes tax evasion. However, you can legally lower your tax bill by claiming allowable deductions for business expenses. The IRS permits deductions for various business-related costs, including office supplies, equipment, gasoline, utilities, and insurance, which can reduce your taxable income.
Are You Taxed More If You Are Self-Employed?
Yes, self-employed individuals face higher taxation due to the necessity of covering both the employer and employee portions of Social Security and Medicare taxes, totaling 15.3%. This breaks down into 12.4% for Social Security (6.2% each for employer and employee) and 2.9% for Medicare (1.45% each for employer and employee). However, the IRS allows a tax deduction on the employer's portion of the tax.
The Bottom Line
For self-employed individuals, the SECA tax is a mandatory contribution to Social Security and Medicare, reflecting both employer and employee shares, and totaling 15.3%. Additionally, those with higher incomes might incur an extra 0.9% Medicare tax. However, the IRS offers deductions on the employer's share of this tax and other business expenses to lessen the tax load.
Despite the higher tax rate for self-employed individuals, these provisions aim to balance their financial responsibilities and benefits.
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