When I did my own withholding, I had to withhold Medicare and social security taxes on my employees behalf and deposit it quarterly. These are certainly taxes and there is withholding for the employer portion as well as for the employee portion withheld on their behalf along with income and any other applicable taxes.
Here’s a quote from the IRS [0]:
“ An employer generally must withhold social security and Medicare taxes from employees' wages and pay the employer share of these taxes.”
In the US, employers pay a medicare and a social security tax. If you are self-employed, you have to pay those taxes in addition to your regular taxes, because you are the employer too.
It is very different having taxes automatically taken out of your paycheck and having to remember to pay them automatically on a quarterly basis.
Most people don't realize how big of a chunk gets taken out. And as was mentioned, as a self employed individual you also pay the "employer's" piece of Social Security which is an extra 7.5%.
If you're incorporated there may be taxes related to that. I pay a yearly fee for the privilege of doing business in Connecticut.
I also must file a yearly annual report with the state; which comes with a processing fee.
I also pay property taxes on business property, such as computers and desks and chairs. My accountant has me list all of these.
Many people go into sticker shock when I tell them to put aside 40% of their income to pay taxes.
This depends on the business structure. In the US, if you have what is called an 'S' corp, then you are required to pay yourself a market rate salary. Otherwise, you are dodging social security, medicare, and other employment taxes. If you have a 'C' corp(as most startups seem to have) then you pay a separate corporate tax so you aren't really dodging taxes. Sole proprietors and LLCs pay "self-employment" tax on pass through earnings, so there is no tax dodging.
When you're self-employed, there is no withholding. You simply write a check out each year (or each quarter, if you make enough) for your taxes.
This has the effect of making you very aware of just how much money is going to you and how much money is going to the government. With withholding, people never see the money they're losing -- hard to miss what you've never had.
In general, though, increasing withholding is exactly what I do when I work as a contract employee. But I rarely do that any more. At some point, your rate just doesn't fit into a W-2 kind of pay scale.
I'm in an interesting spot because my income can be zero, nadda, nil, or it can be upper-middle class. It's all up to me and the market. Most of the tax laws, however, are written with joe sixpack the wage earner in mind. So I end up making a lot one year, owing a bunch of taxes, and then when the bill comes I'm making zero. Then I have to choose between paying taxes and feeding the family. Or the flip-side, you borrow money when you're making zero and then you start up a high-rate job and have to spend the first few months paying back loans instead of getting caught up on back taxes.
But like I said, listening to others I'm sure there must be something wrong with me. Maybe I should find a more "normal" job where I could have deductions taken out instead of being so independent entrepreneurial,and self-employed.
It's not as sketchy as it used to be, due to some rules changes in the last few years.
As a one-person S-Corp, you run payroll and you are your own employee. You can set your salary, and you can also pay yourself in distributions. Salary is subject to FICA, distributions are not. Both are subject to income tax.
When you pay yourself salary, your "personal" side pays its half of the FICA, and your "business" side pays the other. This is the same way a regular employer/employee relationship works (and why it "feels" like you are paying double FICA when you're self-employed; it's because you are both the employee and the employer).
It used to be that you could severely limit your salary, and pay yourself the bulk of your income through distributions, and lower your tax bill by having lower FICA costs.
These days, it is your responsibility to pay yourself a "reasonable salary", as in something you could reasonably defend during an audit. Once you have paid yourself a reasonable salary (which is subject to FICA), you can give yourself more money (revenue permitting :) ) in distributions.
Also, if your self-employment is part-time, you can pro-rate your salary to reflect that part-time employment.
It's also worth noting that as your business gets successful and long-term, you may want to increase your salary and pay into FICA so you can get a better social security payment when you retire. But still, if you analyze it in a spreadsheet, you'll see that social security, as an annuity, is a "bad deal" when you're paying both sides. (It's a very good deal as a W-2 employee with someone else paying the employer half, though.)
And then what happens when you want to pay yourself a salary? Aren't you essentially paying corporate tax rate and income tax on that amount? Maybe that doesn't apply for a sole proprietorship, but does it for a small business?
For the same job making the same income, you'll typically pay more taxes as a contractor than as an employee. You'll pay 100% of your SS/medicare taxes via the self-employment tax, where previously your employer was paying 50% of it for you. The income tax brackets are the same. You can deduct business expenses, but so could your employer, so the IRS isn't missing out on anything.
Thanks. The state (or most states) tacks some on as well, right? If I was not self-employed my employer/client and I would be paying into Employment Insurance and Canadian Pension plan as well, but I'm able to skip that as I own more than 20% (don't recall the exact percent they require for exemption) of the corp I work for. There is also 13% sales tax but I stack that on top of my hourly. I can claw back some of the sales tax by claiming the tax I paid on business expenses.
It looks like if you have at least 110% your previous year's tax withheld and don't have self employment income you do not need to pay quarterly taxes.
According to IRS Pub 15[0], I think companies are legally required to deduct the employer share of taxes. This doesn't apply to self-employed contractors because they're technically self-employed (so the employee and employer are the same). The W-4 can change your deduction rate, but only for the income tax portion, not SS/Medicare.
If you make a large sporadic income, it's either from holding multiple payroll jobs, in which case you can file a form that adjusts your yearly income to the CRA such that your withholdings will make sense, or you're a contractor/business owner and you're paying your own taxes, possibly in installments anyways.
It's not like you're taxed at your peak monthly income. Withholdings are just estimates that can be adjusted.
As self-employed, you'll be paying social security rates set to cover what would otherwise be paid by the employer via payroll taxes, as otherwise using self employed people would be an easy way of evading tax.
(My point was not to dismiss that you might well pay a very high tax rate, by the way, because the rate you gave is certainly possible, but to point out that paying a rate that high is highly unusually high, even in Sweden)
From what I know, If you're self-employed you'll also have to pay payroll tax, which makes taxes end up close to 50% without even taking taking sales taxes into account.
Here’s a quote from the IRS [0]: “ An employer generally must withhold social security and Medicare taxes from employees' wages and pay the employer share of these taxes.”
[0] https://www.irs.gov/businesses/small-businesses-self-employe...
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