Chapter 4: Managing Risks as a Marketing or Management Consultant
Part 2: How to Save Money on Your Quarterly Taxes
As a self-employed marketing or management consultant, you enjoy the freedom to run your business your way. But being your own boss comes with some additional tax responsibilities. In addition to filing your annual return, you also have to pay quarterly taxes.
What Is Self-Employment Tax?
The federal government requires that self-employed individuals pay an estimate each quarter for the following two kinds of taxes:
- Self-employment tax.
- Income tax.
A self-employment tax (SE tax) is a Social Security and Medicare tax. Most W2 employees have part of this tax withheld from their pay, and their employer pays the other half of the tax. Roughly, that means each pays 7.65 percent of their wages to cover payroll taxes.
However, because you are a sole proprietor or independent contractor, the IRS considers you to be both employer and employee — so you owe both halves of the payroll tax. As of 2013, this amount is 15.3 percent of your net self-employment income.
Self-employed people must pay 15.3% of their income for the self-employment tax.
Your income tax is the amount you owe the federal government for your business revenue. Your income bracket determines the amount you owe in taxes. Also, most states require that you pay quarterly income taxes, too. To learn what your state's tax laws require, check out the U.S. Small Business Administration's guide "Determine Your State Tax Obligations ."
If your earnings from self-employment are $400 or more, you are legally required to file an income tax return. You can determine your taxable revenue by subtracting business expenses from your total revenue. Whatever amount is left over is the amount subject to taxes.
Common Tax-Deductible Expenses for Sole Proprietors and Independent Consultants
Taxes are notoriously stressful, but when you know what to expect, you can start planning ahead and setting money aside for your quarterly payments. You can also start saving receipts for business expenses so you can reduce the amount of taxable income you generate.
A word to the wise: this deduction guide is only a point of reference. If you're looking for comprehensive and specific guidance on tax deductions, please consult your tax advisor.
Here are some tax deductions you may want to ask your tax professional about:
- Self-employment tax deduction. While you must pay 15.3 percent of your net earnings for your self-employment tax, you can deduct half of that percentage as a business expense. It counts as a business expense because it's the cost of being self-employed.
- Home office deduction. If you work from a home-based office, a portion of your mortgage, rent, property taxes, and utilities is eligible for deduction. To qualify for this deduction, the workspace must be used exclusively for your consulting business. If you're audited, you'll need to be able to defend the home office deductions you take, so be sure to prioritize accuracy. It may even be helpful to keep a map of your workspace with correct measurements on file. Lastly, be sure you include your restroom in your calculations — the IRS expects that your home office needs facilities just like any other business.
- Health Insurance premium deduction. We mentioned that the Affordable Care Act mandates that everyone must have health insurance. The good news is that you can deduct the full cost of your health and dental insurance premiums if you pay them yourself and you are not eligible for your spouse's coverage.
- Meals and entertainment deduction. Chasing leads and landing contracts may require some wining and dining. Fortunately, you can deduct 50 percent of these entertainment expenses from your taxable earnings. Be sure to keep receipts and records of these expenses, though — a big deduction is a red flag for audits.
- Internet and phone deduction. If you keep a second cell phone or phone line for business purposes only, you can deduct the full cost of the service. You can deduct your monthly Internet expenses based on the online time you use for business purposes.
- Travel deduction. Business trips can be expensive, and fortunately, they count as a deductible expense (with limits). Your trip must be overnight and outside your city limits. You must also have a business purpose or activity planned before you take off. For example, meeting with clients or attending a conference to develop your professional skills would count as business-related activities. If your trip meets these requirements, you can deduct the cost of transportation (such as gas or air fare) and lodging.
- Retirement plan contribution deduction. Self-employed retirement plans can reduce your tax bill while creating a nest egg for your future. You can contribute to both a self-employed retirement plan and an IRA (depending on your income).
There may be even more deductions to take; this list is just to get your wheels turning. To make sure you can take advantage of the deductions you qualify for, be sure to keep precise records of your business expenses and bring them to your tax specialist.
50% of client entertainment expenses are tax-deductible.
Next: Part 3: What Should Independent Consultants Include in Their Client Contracts?