Running your own business may have been a lifelong dream for you, or self-employment may have just been the natural way for you to monetize your experience by offering consulting services. Now that you have left the corporate world of standard employment behind, your success or failure will largely depend on your work ethic and connection.
If you have worked as an employee for years, a lack of knowledge about the text rules for self-employment could lead to serious mistakes. Your obligations shift drastically when you no longer receive a regular paycheck from an employer who withholds taxes for you.
What are the two main differences that will alter your tax obligations as a sole proprietor or self-employed filer?
You have to pay all of your own employment taxes
Any company that employs you benefits from your labor, so they have a requirement to pay some of the taxes on your employment. Their contributions reduce how much you have to pay. When you no longer have an employer paying those taxes, you will have a somewhat higher tax burden to pay yourself.
Additionally, you will have to calculate your self-employment taxes on your own and then retain money to cover those taxes when they come due. Filing and paying your taxes also changes when you file as a self-employed individual or independent contractor.
You have to send in quarterly tax payments
You will still have to file an annual tax return due in April every year. However, you will also need to calculate your estimated income taxes for the year and send in separate, quarterly payments for those taxes. Typically, there is a single-year grace period the first year that you file your taxes as an independent contractor. You will not need to have made estimated taxes the first time you file a return as an independent contractor.
However, you will need to retain money on sending quarterly payments every year after that. If you don’t send the quarterly payments or retain enough money to cover your tax liability as a self-employed individual, you could wind up with a balance owed to the IRS that incurs penalties and interest.
Learning about your tax obligations as an independent contractor or small business owner can help you avoid potentially expensive mistakes and oversights.