I'm not sure what it is about human nature that causes this to happen, but it's remarkable how frequently those involved in financial services and financial planning haven't taken advantage of the advice they routinely give others. One place this often plays out is with tax planning.
Obviously, taxes for you as an entrepreneur are a very different matter than for a typical employee. Fundamentally, it requires a shift in mindset. The common perception is that you'll pay more tax if you work for yourself, since you'll cover the employer portion of Social Security and Medicare taxes. While you will be on the hook for that self-employment tax, the tax advantages to working for yourself can soften the blow. Here's how to start getting the most out of deductions.
1. If should be obvious, but as a self-employed person, you are a business for tax purposes (unless you have set up your business as a corporation or some other legal entity). That means you'll need to file Schedule C to calculate your business profit (or loss) with your tax return. If you've got a profit on Schedule C, obviously, it's taxable; if you've got a loss, you may be able to use it to offset other income on this year's return—and, if you still have a loss, to offset income in previous or future years' tax returns. You also need to calculate your estimated taxes and file them quarterly.
2. One of the easiest and most common ways to fund retirement when you work for yourself is with a SEP-IRA. Your contributions to this type of account reduce taxable income, similarly to those with a corporate 401(k) plan. You can invest as much as 20% of net earnings from self-employment in the plan. Another, more complex option is to open an individual 401(k).
3. There are a lot of deductions and expenses that you qualify for as a business. Those self-employment taxes? Fifty percent are deductible. Your health insurance premiums? Deductible as well, under most circumstances. And, of course, you will get to write off business expenses for supplies, conferences, business lunches, and the like. So be diligent about compiling receipts. Capital expenses such as a new computer normally would have to be depreciated over time, but under a special small business tax break (IRC Section 179), you can deduct up to $250,000 worth of equipment.
4. Get help when you need it. Tax planning is often complex and difficult. For example, deciding what legal form should your business take can have serious and lasting consequences. Don't be afraid to get some expert help in this area. Trying to do too much yourself can easily be penny wise but pound foolish.