The self-employment tax, calculated on Schedule SE, is applied to 92.35% (.9235) of the actual net earnings from self employment. If the total of your net self-employment earnings plus your W-2 Social Security wages are less than the Social Security maximum income base, which is $97,500 for 2007, the tax is 15.3% (.153).
If you are an employee you pay half of the FICA (Social Security and Medicare) Tax on your wages and your employer pays the other half. If you are self-employed you pay 100% of the tax.
If your net earnings from self-employment are $10,000 (and your Social Security wages are less than $87,500) you will pay $1,413 in self employment tax ($10,000 x .9235 = $9,235 x 15.3%). So in effect the self-employment tax is 14.13% of your Schedule C (or C-EZ) bottom line and/or your K-1 pass-through self-employment earnings.
You are allowed an “above-the-line” deduction (an “adjustment to income”) for one-half of your self-employment tax from Schedule SE.
So, taking into account the 50% self-employment tax adjustment to income, the “effective” cost of your self-employment tax is -
· 15% Bracket = 13.07%
· 25% Bracket = 12.36%
· 28% Bracket = 12.15%
· 30% Bracket = 12.01%
· 33% Bracket = 11.80%
If you are in the 25% federal tax bracket and have $10,000 in net earnings from self-employment you will pay $1,413 in self-employment tax. However you will get a $707 above-the-line deduction on Page 1 of your Form 1040, which will result in a $177 income tax savings. So the actual cost of the self-employment tax will be $1,236. If we add the $2,500 in income tax you will pay a total of $3,736 in federal taxes on your Schedule C earnings. When you also add in the state tax on this income we are talking about a total tax cost of more than 40% - so Schedule C deductions, like a home office, business use of your car, or paying a salary to your dependent children, are especially valuable.