Self-Employment Tax Explained: What It Is and How to Lower It

Many first-year business owners are shocked by their tax bill, and self-employment tax is usually the reason. Here's what it is and what you can legitimately do about it.

What is self-employment tax?

When you work for an employer, Social Security and Medicare taxes are split: you pay half through withholding and your employer pays the other half. When you're self-employed, you pay both halves. That's self-employment tax.

The combined rate is 15.3%:

• 12.4% for Social Security (up to an annual wage base limit, which adjusts each year)
• 2.9% for Medicare (no limit)
• An additional 0.9% Medicare tax applies above certain income levels

Who pays it?

You generally owe self-employment tax if you have net self-employment earnings of $400 or more as a:

• Sole proprietor
• Single-member LLC owner (taxed as a disregarded entity)
• Active partner or member in a multi-member LLC
• Independent contractor or freelancer

How it's calculated

Self-employment tax applies to roughly 92.35% of your net profit. Example: with $50,000 of net profit, self-employment tax is about $7,065 (50,000 × 92.35% × 15.3%). That's on top of your regular federal income tax.

The good news: you can deduct half of your self-employment tax as an adjustment to income on your personal return.

Legitimate ways to reduce it

1. Track every deductible expense

Self-employment tax is based on net profit, so every legitimate business deduction lowers it. Mileage, software, supplies, a home office, phone and internet are commonly under-claimed.

2. Consider an S-corp election when profits are high enough

If your LLC elects S-corp taxation, you pay yourself a reasonable salary through payroll and pay employment taxes on that salary. Remaining profit distributed to you isn't subject to self-employment tax. This can produce real savings, but it adds payroll, a separate business tax return and extra costs. It usually makes sense only after profit reaches a certain level.

3. Retirement contributions

Contributions to a SEP-IRA or Solo 401(k) don't reduce self-employment tax itself, but they can significantly reduce your income tax.

4. Health insurance

Self-employed people may be able to deduct health insurance premiums for themselves and their family. This reduces income tax, not self-employment tax.

What not to do

Don't underreport income or invent expenses. Cash and app payments are taxable even if you never receive a 1099. The IRS increasingly matches income from payment platforms and clients.

Plan for it

Because no one withholds self-employment tax for you, include it in your quarterly estimated payments. Setting aside a fixed percentage of every payment in a separate savings account is the easiest way to avoid a surprise.

The bottom line

Self-employment tax is the price of being your own boss, but good records and the right structure at the right time can keep it in check.

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Need help getting this right? TRIG Bookkeeping & Tax Services helps new business owners in Washington with company registration, monthly and annual bookkeeping, and government compliance. Contact us to talk about your business.

This article is general information, not legal or tax advice for your situation. Tax rules and fees change, so confirm current details with the IRS, the Washington Department of Revenue, or a qualified professional.