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This optional methods flow chart will tell you whether or not you qualify to use one of these methods. |
Tax Guide |
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Your SECA tax is computed by filling out either the long or the short version of Schedule SE.
Many people can use the short version of the form. Those who cannot include those whose total wages, tips, salary and earnings from self employment were more than $117,000 in 2014; religious workers who owe self-employment taxes; or farmers or low-income people using one of the optional methods discussed below (which generally require you to pay higher SECA taxes).
Unless you are using one of the optional methods, to compute your SECA tax, you will transfer your net self-employment income to Lines 1 and 2 of the short SE form or the long SE.
Then, you will multiply your total net self-employment income by 94.35 percent (.9435) to get your taxable net earnings from self employment. This fraction has the effect of giving you a deduction from your income for one-half of the SECA taxes you'd otherwise have to pay, to reflect the fact that employees don't have to pay FICA tax on the portion of FICA that their employers pay for them.
Then, multiply the result by 15.3% to arrive at your SECA tax, unless your combined wages, tips, salary, bonus and your net earnings from self-employment are greater than the ceiling amount ($117,000 for 2014). If they are, you will be using the long form of Schedule SE, which will allow you to make sure you're paying Social Security only up to the ceiling amount.
Finally, you will enter the amount of your SECA tax on Line 5 of the short SE or Line 12 of the long SE, and then transfer it to Line 56 of your Form 1040 and add it to the income tax you owe.
Don't forget the very last step, which is to give yourself an income tax deduction for one-half of your SECA tax (computed on Line 6 of the short SE and Line 13 of the long one). This amount is transferred to Line 27 of your Form 1040. It has the effect of allowing you to avoid paying income tax on one-half of your SECA tax amount, just as employees do not have to pay income tax on the amount of FICA tax that their employers pay for them.
Optional methods. As we mentioned above, there are two optional methods of computing your SECA tax.
To understand why these optional methods exist, you have to realize that Social Security disability and retirement benefits are conditioned on your having worked a certain amount during your lifetime; generally you need to have worked for at least 40 calendar quarters (or 10 years) in which you were covered by Social Security and earned a minimum amount.
When the Social Security system was enacted, people who were relatively close to retirement, or who had been out of the workforce or had worked for many years at very low-paying jobs, were in danger of not qualifying for retirement benefits. This is less of a problem today, when most workers earn many more quarters than the minimum needed to qualify. However, there are still a few people who might be in danger of falling outside the Social Security system if they did not have a special way to qualify. In particular, some farmers whose income fluctuates a great deal from year to year and who often suffer an annual financial loss may need some help in gaining more quarters of coverage.
Hence, the optional methods of computing net earnings from self-employment, which operate by allowing you to pay SECA tax as if your net earnings were higher than they actually were.
There is a special optional method for farmers, and a slightly less lenient method for low-income non-farmers. Either of these methods can also help you if you are entitled to the Earned Income Credit (EIC) and increasing your net self-employment income will help you to obtain a higher EIC amount.
Generally, the nonfarm optional method is available if you had net profits from all nonfarm businesses under a certain amount, and you have not previously used this method for more than four years.
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If you think you may want to use either of the optional methods, Part II of the long version of Schedule SE will walk you through the computations.
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