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In this episode of the Ask Ralph show, host Ralph Estep, Jr. discusses the important topic of self-employment tax. He explains that self-employment tax is what individuals who work for themselves must pay on their income, including both employer and...
In this episode of the Ask Ralph show, host Ralph Estep, Jr. discusses the important topic of self-employment tax. He explains that self-employment tax is what individuals who work for themselves must pay on their income, including both employer and employee portions of Social Security and Medicare taxes. Ralph provides a step-by-step guide on how to calculate self-employment tax and then explores concrete ways to reduce or avoid paying excessive amounts. These strategies include setting up a pass-through entity like an LLC taxed as an S corporation or partnership, forming a two-member LLC to classify as a partnership for tax purposes, or electing Subchapter S corporation status. Ralph also highlights the long-term benefits of paying self-employment tax, such as eligibility for Social Security benefits in retirement or during disability. Listeners are encouraged to share the podcast with friends and family and visit www.askralphpodcast.com to leave reviews or voicemails. This episode is brought to you by Saggio Management Group, Inc., your trusted partner in financial management.
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Summary
The transcript summarizes a podcast hosted by Ralph Estep Jr., a financial advisor, focusing on discussing self-employment taxes. It covers calculating self-employment tax based on net business income, ways to reduce it by using LLCs and S-corps, the value of paying into Social Security, and reminds listeners to share the podcast and leave reviews.
Chapters
Introducing the Podcast and Host
The host Ralph Estep Jr. welcomes listeners to the Ask Ralph podcast, which aims to help people understand complex financial topics. He encourages listeners to share the podcast and leave reviews or questions on their website.
Calculating Self-Employment Tax
Self-employment tax refers to the 15.3% tax solo entrepreneurs pay on their net business income for Social Security and Medicare. It consists of both the employer and employee portions since self-employed people are effectively both.
Strategies to Reduce Self-Employment Tax
Ways to reduce self-employment tax include using an LLC, S-corp, or partnership to pay yourself a reasonable salary while taking remaining profits as distributions. However, the salary amount is important for IRS compliance.
Value of Paying into Social Security
While paying self-employment tax can seem burdensome, it builds credits towards eligibility for valuable Social Security retirement and disability benefits in the future.
Action Items
Intro
Welcome to the Ask Ralph podcast. Where listening to an experienced financial professional can help you make sense of confusing questions, current headlines, and industry trends about taxes, small business, financial decision making, investment strategies, and even the art of proper budgeting.
Intro
As Ralph makes the complex simple by sharing his real world knowledge with all things financial. Now here's your host, Ralph Estep Jr.
Ralph Estep, Jr.
Welcome back to another episode of the Ask Ralph Show. I'm your host Ralph Estep Jr. And today we have an important topic to discuss, self -employment tax. This is a crucial aspect for individuals who are self -employed or have their own businesses.
Ralph Estep, Jr.
And understanding how it works can greatly impact your financial situation. But before we dive into that, I wanna remind all of our listeners to share this podcast with their friends and family. We love spreading helpful information and would appreciate your support.
Ralph Estep, Jr.
Also don't forget to visit our podcast page at www .askralphpodcast .com where you can leave us a review or even a voicemail message with any questions or suggestions you may have. And I encourage everybody to leave us a review or leave us a voicemail message.
Ralph Estep, Jr.
We'd love to hear from you. Ask Ralph will be right back.
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Ralph Estep, Jr.
Now let's get started. Today's episode is brought to you by Saggio, Management Group, your trusted partner in financial management. So what are we talking about today? Well, we're talking about self -employment tax.
Ralph Estep, Jr.
Self -employment tax refers to the taxes that individuals who work for themselves must pay on their income. It consists of both the employer and employee portions of social security and Medicare taxes.
Ralph Estep, Jr.
So let's start off by first talking about how do you calculate it? Well, to calculate self -employment tax, start by determining your net earnings from self -employment. This includes income from any trade or business you operate as a sole proprietorship or as an independent contractor.
Ralph Estep, Jr.
So this net income would be whatever you gross, you know, whatever you brought into the business, less your expenses. So once you have that figure, you multiply it by the current self -employment tax rate, which in 2021 as an example was 15 .3 percent to find out how much you owe in self -employment tax.
Ralph Estep, Jr.
Well, that's all good, but the question for us now is, well, how can we reduce some of that self -employment tax? So let's explore some concrete ways to reduce or avoid paying excessive amounts of self -employment tax.
Ralph Estep, Jr.
You're not going to get rid of all self -employment tax. If anybody tries to sell you a bag of goods that says that, just run away from them because they're telling you a lie. But there are some things you can do to help mitigate or reduce it.
Ralph Estep, Jr.
What's the number one thing? Number one thing is set up a pass -through entity. Consider setting up a pass -through entity such as an LLC, which is a, if you don't know, limited liability company, taxed or an S -cooperation or partnership.
Ralph Estep, Jr.
By doing so, you can potentially reduce the amount of income subject to the self -employment tax by paying yourself a reasonable salary and taking the rest of your income as distributions. And we're going to have a whole podcast coming up soon about what is a reasonable salary because there's a lot of people out there promoting reasonable salaries that I don't think are going to pass the test if they're ever subjected to IRS review.
Ralph Estep, Jr.
The second thing you could consider doing is setting up a two -member LLC. If you have a business partner, forming a two -member LLC can allow you to classify the entity as a partnership for tax purposes.
Ralph Estep, Jr.
This way, each member can pay self -employment tax only on their respective share of the profits, potentially reducing the overall tax burden. Now, all these things I'm talking about, you need to meet with a professional like myself to discuss how they would impact your particular situation.
Ralph Estep, Jr.
Number three, subchapter S -corporation. Another option is to elect a subchapter S -corporation status for your business. Now, a few minutes ago, we talked about the LLC and what you need to understand is there's an LLC, there's the S -corp, and then there's the LLC taxed as an S -corp.
Ralph Estep, Jr.
Again, you need to talk to somebody who understand these things and can explain to you how that would work. But if you want to avoid that altogether, you could go right to the subchapter S -corporation.
Ralph Estep, Jr.
Another option is to elect subchapter S -corporation status for your business. This allows you to pay yourself a reasonable salary subject to self -employment tax while taking additional income as dividends that are not subject to the self -employment tax.
Ralph Estep, Jr.
It's very important to note that when considering these strategies, consulting with a qualified tax professional is highly recommended to ensure compliance with all applicable laws and regulations. So, I've said all those things.
Ralph Estep, Jr.
I've talked about what is self -employment tax, how can we work to reduce or mitigate it? Let's have a discussion about why it might be beneficial in the long run. While it may seem burdensome at times, paying into social security through self -employment taxes can provide future benefits, such as retirement income and disability insurance coverage.
Ralph Estep, Jr.
By contributing consistently over time, you're building up credits towards eligibility for social security benefits in the future. These benefits can be vital during retirement or if an unforeseen circumstance prevents you from working due to disability.
Ralph Estep, Jr.
Remember that planning for your financial future is essential and understanding how self -employment taxes play into this equation is crucial. It's not a simple discussion of, well, I just don't want to pay into social security and Medicare.
Ralph Estep, Jr.
When I was younger in my career, I always had the position of, let's try to reduce or eliminate that social security tax altogether. But as I get older and I get more gray hairs on my head, I guess you could say, I'm starting to see where there is some value in paying into it.
Ralph Estep, Jr.
And the truth is, the IRS is going to be looking at this anyway. You've got to be really cautious about reasonable compensation. Like I said, tune in again in the future. We're going to be talking about reasonable compensation, but there is two sides to this, mitigating, reducing the self -employment tax.
Ralph Estep, Jr.
But then also, you have to realize that it is going to impact your ability to collect on it down the road. Well, that wraps up today's episode of the ASCRAF Show. I hope this discussion provided valuable insights into what self -employment tax is, how to calculate it, ways to reduce or avoid it through past your entities, like an LLC or sub -chapter S corporation, and why paying this tax contributes towards social security benefits in the future.
Ralph Estep, Jr.
Like I said before, don't forget to share this podcast with your friends and family. And remember, visit our podcast page at www .askralphpodcast .com, where you can leave us a review or a voicemail. And I encourage everyone, please share the podcast.
Ralph Estep, Jr.
Please leave us a review. Leave us a voicemail message about a topic that you want to talk about in the future. And I will definitely make sure it happens. And again, this podcast is brought to you by Saggio Management Group, your trusted partner in financial management.
Ralph Estep, Jr.
So in the end, I say this to you, plan wisely and secure your future.
Outro
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Outro
The information contained in this episode of Ask Ralph is based on data available as of the date of its release. Sajio Accounting Plus and Ask Ralph Media Inc. is under no obligation to update this content if changes occur.
Outro
Applying this information to your specific situation requires careful consideration of all facts and circumstances. And any information provided is not to be considered as financial, tax, or legal advice.
Outro
Please consult your tax advisor or attorney before acting on any material covered.
