Chapter 7 Self-Employment ©2007 CCH. All Rights Reserved West Peterson Ave. Chicago, IL CCH Essentials of Federal Income Taxation

2 of 16 Accounting Methods Cash method Taxpayers report income when they actually or constructively receive it. Accrual method Income includes amounts earned or accrued but not received; expenses include liabilities incurred but not paid. Chapter 7

CCH Essentials of Federal Income Taxation3 of 16 Examples of Self-Employment Income Consulting fees Director’s fees Earnings of a registered nurse or licensed practical nurse employed directly by the patient Fees charged by a child- care provider, unless services are provided in the parent’s home Earnings of a newspaper vendor over age 17 Fees earned by a clergy member or a Christian Science practitioner General partner’s distributive share of partnership income and loss Guaranteed payments to a partner Fees earned by a professional executor Commissions earned by a real estate agent Royalties received by an author Chapter 7

CCH Essentials of Federal Income Taxation4 of 16 Examples of Income Other Than Self-Employment Dividends, unless a dealer in securities Earnings of a corporate employee, even if a 100% shareholder of the corporation Fees earned from an occasional lecture Gains and losses on the sale of property Interest Real estate rentals, unless a real estate dealer Payment to a registered nurse or licensed nurse by an agency, doctor, or hospital Wages and tips received for services performed as an employee Wages of a newspaper carrier or vendors under age 18 Chapter 7

CCH Essentials of Federal Income Taxation5 of 16 Deductible Business Expenses Accounting and bookkeeping fees Advertising Bad debts Bank service charges Commissions and fees Contract labor costs Cost of goods sold Depletion and depreciation Education Employee achievement awards Employee benefit programs Employees’ pension and profit- sharing plans Employment agency fees Gifts Insurance, license fees, and taxes Interest on business loans Legal and professional services Maintenance and repairs Office supplies and expense Rent Salaries and wages Professional dues and subscriptions Tax planning and preparation fees Telephone and utilities Transportation, including car and truck expenses Travel away from home Chapter 7

CCH Essentials of Federal Income Taxation6 of 16 Requirements for Using Schedule C-EZ Cash method of accounting is used Only one business operated as a sole proprietor No employees during the year No inventory at any time during the year Business expenses of $5,000 or less No net loss from the business No unallowed prior year passive activity loss from the business No deduction for business use of the home Not required to file Form 4562 for the business Chapter 7

CCH Essentials of Federal Income Taxation7 of 16 Deductible Car and Truck Expenses Garage rent, parking, and tolls Gasoline, oil, and lubrication Insurance, licenses, and auto club dues Lease payments Maintenance and repairs Property taxes Tires and batteries Washing and polishing Chapter 7

CCH Essentials of Federal Income Taxation8 of 16 Deductible Travel Expenses Air, rail, and bus transportation Baggage charges Dry cleaning and laundry Lodging Meals and entertainment (subject to limitations) Car expenses, including car rental Other expenses related to travel Telephone and fax costs Tips related to travel Transportation to and from the airport and the hotel, from one customer to another, or from one place of business to another Chapter 7

CCH Essentials of Federal Income Taxation9 of 16 Self-Employment Tax Self-employed taxpayers pay the tax with their (quarterly) estimated payments. Self-employed taxpayers must pay both the employer and employee halves of FICA (12.4% for OASDI and 2.9% for HI). Self-employed taxpayers deduct one-half of the self-employment tax from gross income. Chapter 7

CCH Essentials of Federal Income Taxation10 of 16 Self-Employment Net Profit Net profit (or loss) an individual derives from any trade or business reported on Schedule C (line 31) or net profit reported on Schedule C-EZ (line 3) Net profit (or loss) an individual derives from farming reported on Schedule F The individual’s distributive share of the ordinary net income (or loss) from a partnership or joint venture Computing self-employment net profit involves adding the following: Chapter 7

CCH Essentials of Federal Income Taxation11 of 16 Keogh plans Simplified Employer Pension (SEP) plans Savings Incentive Match Plan for Employees (SIMPLE) Chapter 7 Retirement Plans for Sole Proprietors

CCH Essentials of Federal Income Taxation12 of 16 Retirement Plans for Sole Proprietors Sole proprietors can establish retirement plans for themselves and deduct the contributions from their gross income on page 1 of Form 1040 (not on Schedule C). Sole proprietor is an individual who owns the entire interest in an unincorporated business. Sole proprietors who set up retirement plans for themselves also may have to provide retirement plans for qualified employees. Contributions the employer makes on behalf of employees are deducted on Schedule C. Chapter 7

CCH Essentials of Federal Income Taxation13 of 16 Compensation for the Self-Employed Self-employment net profit – Deduction for one-half of the self-employment tax – Contribution made to the retirement plan = Compensation for a self-employed taxpayer Chapter 7

CCH Essentials of Federal Income Taxation14 of 16 Keogh Requirements The plan must be established before the end of the tax year The plan must be in writing The maximum annual contribution for a self-employed taxpayer is $45,000 Contributions to a Keogh must be made by the due date of the tax return (including extensions) Chapter 7

CCH Essentials of Federal Income Taxation15 of 16 Simplified Employer Pension (SEP) Plans The maximum contribution self-employed taxpayers can make to a SEP is the lesser of $45,000 or 25% of the self-employed taxpayer’s compensation Self-employed taxpayers may contribute to a SEP until the due date of the return, including extensions Chapter 7

CCH Essentials of Federal Income Taxation16 of 16 Savings Incentive Match Plan for Employers (SIMPLE) The maximum contribution self-employed taxpayers can make to a SIMPLE is the lesser of $10,500 or 100% of the participant’s compensation. Employees age 50 and older can contribute an additional $2,500 to their SIMPLE plans. Employers that offer a SIMPLE plan are required to match employees’ contributions. Chapter 7