Federal Employment Taxes

Sole Proprietorships & Federal Employment Taxes

By Vernon Lee

A sole proprietor is someone who owns an unincorporated business by himself or herself. Are you self employed. Do you work for yourself? If so you may become liable for income tax. Paying income taxes in the United States is an voluntary process. Our government has set forth laws that have been enacted by congress and enforced by the Internal Revenue Service.

Being the sole owner of a business may require registering with your state. Obtaining a license or also a requirement to collect and pay state income taxes.

Sole proprietor's in the United States often make more money that some larger corporations. So the next thing is that tax will become due if you have a profit. Before you pay tax on your income your business you will be allowed to deduct some expenses, only if there is a profit. If there is no profit for three out of five years the IRS will not allow any deduction and consider you business to be a hobby. To be deductible, a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your trade or business. A necessary expense is one that is helpful and appropriate for your trade or business. An expense does not have to be indispensable to be considered necessary.

Being a sole proprietor requires that you pay all of the taxes. Compared to a person that is not self employed. For example Joe works for XYZ Construction company. His employer pays part of his social security (7.65%) and Joe pays the same amount. Up to a limit of $94.200.00(for employed and self employed). Likewise if Joe was a sole proprietor he would have to pay the total social security by himself of (15.3%) after he tabulates his expenses. To continue with the same example Joe may become liable for Estimated Tax Payments

As you earn income you are required to pay the taxes on this money hence its a "pay as you go system". The cash method of accounting rules apply to most taxpayers. Other taxpayers pay on their income by the accrual method of accounting. Under the cash method, income is not counted until cash (or a check) is actually received, and expenses are not counted until they are actually paid. Under the accrual method, transactions are counted when income is made a product is delivered, or when a service is rendered regardless of when the money for them (receivables) is actually received or paid.

When does you year end? Some businesses have fiscal years ending on any month except December. While other businesses go by the regular calendar. An interesting note is that our Government has a fiscal year ending October 31.

Form 1040ES Voucher must be filed if you are a sole proprietor and expect to owe some tax. The tax for the year is paid on a quarterly basis. The first three months in the year is a quarter. Your first Estimated payment is due after the end of the month (March) by the fifteenth day of the next month This makes your payments due on April the fifteenth. The second quarter June 15th, The third quarter September 15 and the final payment is due the following year on January 15. The amount of tax to be paid is determined by the worksheet on the 1040ES Form.

If you have employees you would also be required to file 941 Forms(Employers Quarterly Tax Form) these forms are also due on a quarterly schedule. Your employees would be required to file out W-4 forms so that you will know the proper amount to withhold out for federal income tax. IRS has a publication to determine the correct withholdings Publication 15. So be mindful of your obligations. Again the social security tax is paid by you and your employees 7.65%. The withholdings and the social are reported on the 941 Form. You are also required File a 940 Form for Federal Unemployment tax. The unemployment tax is base on the first $7,000.00 of each employee. The actual tax is 6.2%, however if you have met all state reporting obligations you will get a credit of 5.4% leaving the actual tax of .08% or 56.00 per employee per year.

Most employment taxes can be taken on your schedule as a business expense/deduction. At the end of the year you must mail out W-2 form to your employees showing their withholdings. If on the other hand you work with contractors only then no employment tax is due and no forms (940/941) would be filed. The guidelines for determining who employees are very clear. If you can control the out come of the work then the person working for us is an employee. In general terms a contractor is not an employee. However, sales men who are employees often make commissions that have no taxes taken out. In this case you would issue a 1099MISC form. Even though this employee may not consider himself to be self employed. He is required to file the forms just as though he were.

A sole proprietor will file a form 1040, 1040 schedule C or C-EZ, a 1040 Schedule SE. The schedule SE will compute you 15.3% amount of self employment tax which is really social security. A percentage of this Social security is adjusted when you file your Federal Tax return.

Therefore you may need to obtain a Federal Tax ID number if you have employees. If so file form SS-4 with the IRS. The Federal Tax ID number sometimes called an EIN or an FEIN could be used to open a business bank account and for depositing you employment taxes on forms 940 and 941. The deposits must be made with a form 8109B To avoid penalty never send a deposit for employments directly to IRS always use a Federal Reserve Bank. Your bank can tell you if they can accept these deposits. Certain excise taxes may also be due. Be sure to verify due dates and filing requirements to avoid penalty. This is a great site www.irs.gov

IF you are liable foe Estimated tax the use form 1040ES. List your Estimated Tax payments maid in the payment section of the 1040 form. To file your Income Tax return use Form 1040 and Schedule C or C-EZ attach to 1040. Also attach the Self-employment tax Schedule SE attach to 1040 Form then, mail to nearest IRS service center.

All individual Estimated payments should be mailed to you local sercice center. The 1040ES Forms have mailing instructions.

Report your withholdings from your employees on a Form W-2/ W-3 at the end of the year. The W-3 goes to the IRS. The W-2 form is to be filed with your employees personal Tax Return. All of these forms will be verified for errors and mistakes.

Filing information returns for payments to non-employees and transactions with other persons. In most cases contractors. File 1099(misc) Forms for Miscellaneous income. Visit www.irs.gov

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