Self-employment taxes are social security and medicare taxes for self-employed business owners. Individuals who don’t have taxes withheld from a W-2 paycheck must pay self-employment taxes.
That means owners of LLCs (that do not file taxes as S-Corps) must pay self-employment taxes. The current Self Employment tax rate is 15.3% of all net self-employment income.
The business does not pay self-employment tax, the business owner does. Self-employment taxes "pass-through" to the owners and are reported on personal annual income tax returns and paid by the individual.
If you are not an employee of your business and do not receive a paycheck from it, you don’t have an employer to deduct social security and medicare taxes from each paycheck. Therefore the IRS hits your entire net income amount with the whopping 15.3% self-employment tax to get those social security and medicare taxes from you.
There is no avoidance of self-employment tax. These taxes can become very costly as your net income grows. It is widely recommended that small businesses with more than $20k - $30k in net income change their taxing status to S-Corp.
When your business elects to be taxed as an S-Corp, your self-employment taxes are immediately reduced by thousands of dollars because S-Corp owners do not pay any self-employment tax on their net income. Instead, the IRS requires S-Corp business owners to pay themselves via W-2 paychecks. Social security and medicare taxes are then paid only on the amount of payroll business owners pay themselves.
Simply put, the trade-off for paying social security and medicare via monthly payroll taxes throughout the year, is the complete elimination of 15.3% tax on your net business income.
Watch our short video on Payroll for S-Corp owners below
See also Can you explain how payroll taxes work?
See also Can S-Corp Owners' deduct medical premiums paid by their business?
See also What is Tax Planning and why do I need it?
See also What is an S-Corporation?
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