How To Reduce Your Self-Employment Tax

Understanding the self-employment tax can help minimize your tax bill

self-employed carpenter working in his shop
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The 15.3 % self-employment tax can be a challenging expense for business owners, but there are ways to lower your self-employment tax burden.

The self-employment tax—comprised of a tax of 12.4% for Social Security and 2.9% for Medicare—can be reduced by increasing certain tax-deductible business expenses. Also, the type of business structure can help lower self-employment taxes, such as forming an S-corporation. Read on for tips on how to reduce your self-employment tax.

Key Takeaways

  • The 15.3% self-employment tax comprises a 12.4% Social Security tax and a Medicare tax of 2.9% on all net self-employment income.
  • If you qualify, taking the Section 179 deduction can lower your net income, allowing you to deduct the cost of certain business fixed assets.
  • Forming an S-corporation might help reduce self-employment taxable income since you'd pay yourself a portion as salary and the remaining as dividends.
  • Self-employed people who reported a loss for the year may qualify for the "Optional Method," in which you'd get a credit for Social Security coverage.

How To Reduce Self-Employment Tax

It is difficult to avoid paying the self-employment tax entirely. However, there are three good ways that you can reduce the amount of self-employment tax that you owe.

1. Increase Your Business Expenses

The only guaranteed way to lower your self-employment tax is to increase your business-related expenses. This will reduce your net income and correspondingly reduce your self-employment tax. Regular deductions such as the standard deduction or itemized deductions won't reduce your self-employment tax.

Above-the-line deductions for health insurance, SEP-IRA contributions, or solo 401(k) contributions will not reduce your self-employment tax, either. These deductions only reduce the federal income tax.

You may be able to lower your net income by taking the Section 179 deduction, which allows you to deduct the cost of certain fixed assets that are used for business. This will impact both your income tax and the self-employment tax, so you will need to speak with a tax professional to find out if you qualify.

2. Increase Tax During Years With Losses

Sometimes you may need to increase your self-employment tax in order to maintain eligibility for Social Security retirement or disability benefits.

Note

In general, you need at least 40 Social Security credits over your lifetime to be eligible for retirement benefits and, for age 31 or older, at least 20 credits in the 10 years preceding your disability to be eligible for disability benefits.

Self-employed people who are facing a year in which they have lost money—their expenses were greater than their incomes—or a year in which their incomes are significantly lower than usual can use a special method, known as the "optional method," to increase their self-employment tax.

Self-employed persons who are not farmers or fishermen are limited to using the optional method only five times during their lifetimes. Rules for this method are found in the ​Instructions for Schedule SE.

3. Consider Forming an S-Corporation

The self-employment tax applies specifically to earned income. If your clients or customers pay your S-corp rather than paying you directly, that's not yet considered income you have earned.

Once you form your S-corporation, you would pay yourself a percentage of your corporation's earnings as a salary and the remaining balance as dividends. The "salary" portion is earned income and is subject to self-employment tax. But dividends aren't subject to self-employment tax, so you've reduced your net self-employment income by whatever percentage you took as dividends.

Whether you choose to form an S-corp or use another strategy, effectively lowering your self-employment tax can be tricky. The best way to do it may change from year to year, especially as self-employment tax rates and income subject to these rates can change annually. To make sure you file your taxes correctly, enlist the help of a tax professional who specializes in self-employment.

How to Calculate Self-Employment Tax

The 15.3% self-employment tax is composed of a 12.4% Social Security tax on the first $147,000 of net self-employment income for the year 2022 ($160,200 in 2023) and a Medicare tax of 2.9% on all net self-employment income.

Note

Your self-employed income is any income from self-employed business activities (Schedule C), farming (Schedule F), the self-employed earnings of a partner (Schedule E), and work as clergy or employee of a religious organization.

The $147,000 ceiling is called the "Social Security wage base." It represents the maximum amount of income from wages and net self-employment income that's subject to the Social Security tax. This base increases a little each year to adjust for inflation, which is the pace of rising prices in the economy.

Note

Net self-employment income is your income after deducting business expenses, such as marketing expenses, store rent, or purchased inventory.

You would next adjust your net self-employment by multiplying it by 92.35%, which allows you to subtract out 7.65% as a business expense. The adjusted 92.35% takes into account the part of the Social Security and Medicare taxes as a deductible business expense for employers.

Note

Self-employed taxpayers are permitted to deduct the employer’s portion of Social Security and Medicare taxes on their own tax returns.

This reduction in the base amount of income that's subject to the self-employment tax along with the above-the-line deduction available to self-employed taxpayers for the employer portion of the tax helps equalize the tax treatment between self-employed workers and wage employees.

Self-employment tax is calculated using Schedule SE form 1040 or 1040-SR. You must pay the self-employment tax even if you are already receiving Medicare or Social Security.

Frequently Asked Questions (FAQs)

How much can you reduce self-employment tax?

How much you can lower your self-employment tax depends on a number of factors. You might be able to deduct certain expenses, such as asset purchases. Also, how your business is structured—whether it's an S-corporation or sole proprietorship—can affect your taxes.

What is the 20% self-employment deduction?

Self-employed business owners, including sole proprietorships, partnerships, and S corporations, may be eligible for a qualified business income (QBI) deduction of 20%, which reduces their business income.

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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. Internal Revenue Service. "Topic No. 554 Self-Employment Tax."

  2. Internal Revenue Service. "New Rules and Limitations for Depreciation and Expensing Under the Tax Cuts and Jobs Act."

  3. Social Security Administration. "Social Security Credits and Benefit Eligibility."

  4. Internal Revenue Service. "2021 Instructions for Schedule SE," Pages 5-6.

  5. Internal Revenue Service. "2021 Instructions for Schedule SE: Self-Employment Tax," Page 5.

  6. Internal Revenue Service. "2021 Instructions for Schedule C, Profit or Loss From Business," Pages 1-2.

  7. Internal Revenue Service. "Publication 15: (Circular E), Employer's Tax Guide," Page 25.

  8. Internal Revenue Service. "Self-Employment Tax (Social Security and Medicare Taxes)."

  9. Internal Revenue Service. "Qualified Business Income Deduction."

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