How Much Does a Contractor Pay in Taxes?

Contractors operate under a distinct tax framework compared to traditional employees, as they are considered self-employed for tax purposes. This classification means contractors assume greater responsibility for their tax obligations. Understanding these responsibilities is important for managing finances and ensuring tax compliance.

Understanding Contractor Tax Types

Contractors are responsible for two main types of taxes: self-employment tax and income tax. These obligations differ significantly from those of a typical employee, who has taxes withheld from their paychecks.

Self-employment (SE) tax funds Social Security and Medicare, serving as the self-employed individual’s contribution to these federal programs. This tax is equivalent to the Federal Insurance Contributions Act (FICA) taxes, typically split between an employer and employee. For 2025, the SE tax rate is 15.3%, comprising 12.4% for Social Security and 2.9% for Medicare. The Social Security portion applies to net earnings up to $176,100 for 2025, while the Medicare portion applies to all net earnings.

Contractors must also account for income tax, including federal, state, and potentially local taxes. Unlike employees, whose employers withhold income tax, contractors are responsible for calculating and paying their own income tax on business profits. This requires careful financial management to cover these liabilities. The total tax burden combines self-employment tax and income tax obligations.

Determining Taxable Income for Contractors

Accurately determining taxable income directly influences the amount of tax owed. This process begins with identifying all gross income sources and then subtracting allowable business expenses. The resulting net earnings form the basis for calculating self-employment tax and contribute to overall adjusted gross income for income tax purposes.

Gross income includes all payments received for services rendered, such as cash, checks, direct deposits, and electronic payments. Maintaining accurate records of all incoming funds is important for reporting total earnings and for tax calculations.

Allowable business expenses reduce a contractor’s taxable income. To be deductible, an expense must be both ordinary and necessary for the business. An ordinary expense is common and accepted in the industry, while a necessary expense is helpful and appropriate. These deductions lower net earnings subject to self-employment tax and reduce income subject to federal and state income taxes.

Many common expenses are deductible. The home office deduction allows for a portion of home-related expenses if a specific area is used exclusively and regularly for business. This can include a percentage of mortgage interest, rent, utilities, and repairs. Contractors can calculate this deduction using a simplified option of $5 per square foot for up to 300 square feet, or by tracking actual expenses.

Vehicle expenses incurred for business purposes are also deductible. Contractors can choose between the standard mileage rate or the actual expense method. The standard mileage rate, updated annually, covers costs like fuel, maintenance, insurance, and depreciation. The actual expense method allows for the deduction of specific costs such as gas, oil, repairs, insurance, and depreciation, based on the percentage of business use. Parking fees and tolls for business travel are deductible under both methods.

Other common deductible expenses include:
Premiums for business insurance, such as general liability or professional indemnity
Professional development costs
Office supplies, software, and tools necessary for work
Education expenses directly related to maintaining or improving skills for the trade or business

Self-employed individuals can deduct premiums paid for medical, dental, and qualifying long-term care insurance for themselves, their spouse, and dependents. This deduction is taken as an adjustment to income on Form 1040, Schedule 1, reducing adjusted gross income. It is available if the contractor or their spouse was not eligible for an employer-subsidized health plan. Half of the self-employment tax paid is also deductible as an adjustment to income, further reducing income tax liability.

Calculating net earnings from self-employment involves subtracting all allowable business expenses from gross income. This net amount determines the self-employment tax, calculated on 92.35% of these net earnings. This calculation is performed on Schedule SE (Form 1040). Net earnings from Schedule C flow directly into Schedule SE.

Net earnings from self-employment, after accounting for the deductible portion of self-employment tax and other adjustments, contribute to the contractor’s adjusted gross income (AGI) on Form 1040. A lower AGI can lead to a reduced income tax liability and may impact eligibility for other tax credits or deductions.

Paying Estimated Taxes

Since contractors do not have an employer withholding taxes, they are generally required to pay estimated taxes throughout the year. This pay-as-you-go system ensures tax obligations are met as income is earned, rather than in a single lump sum. Failure to make timely payments can result in penalties.

Estimated tax payments cover both income tax and self-employment tax liabilities. These payments are typically made in four quarterly installments, reflecting income earned during specific periods. Due dates are generally April 15, June 15, September 15, and January 15 of the following year. If a date falls on a weekend or holiday, the deadline shifts to the next business day. For example, the first quarter 2025 payment was due April 15, 2025, and the second quarter payment was due June 16, 2025.

The Internal Revenue Service (IRS) offers various methods for making estimated tax payments:
IRS Direct Pay (direct from bank account)
Electronic Federal Tax Payment System (EFTPS) for scheduled payments and immediate confirmation
Mail with a Form 1040-ES voucher
Through tax software

Underpayment penalties can apply if estimated taxes are not paid on time or if the total amount paid is insufficient. Taxpayers can generally avoid penalties if they owe less than $1,000 in tax after subtracting withholding and refundable credits, or if they pay at least 90% of the current year’s tax. Another safe harbor is paying 100% of the tax shown on the prior year’s return. For higher-income taxpayers with an adjusted gross income exceeding $150,000 in the prior year, this safe harbor increases to 110% of the prior year’s tax.

Annual Tax Filing Requirements

The annual tax filing process brings together all income and expense information from the tax year. This step reconciles estimated tax payments with the actual tax liability. It is a comprehensive reporting process that utilizes several forms to detail business operations and personal financial standing.

Contractors primarily use Form 1040, the U.S. Individual Income Tax Return, to report overall income and calculate total tax. Attached to Form 1040 are specific schedules detailing business income and self-employment taxes. This includes Schedule C (Profit or Loss from Business), used to report gross income and deductible expenses. The net profit or loss calculated on Schedule C directly impacts taxable income.

Schedule SE (Self-Employment Tax) is used to calculate Social Security and Medicare taxes owed by self-employed individuals. This form uses net earnings from Schedule C to determine self-employment tax liability. The calculated self-employment tax is then reported on Form 1040. Contractors may also need to file relevant state income tax forms.

The general filing deadline for individual income tax returns, including those for contractors, is April 15 of the year following the tax year. For example, taxes for the 2025 tax year are due by April 15, 2026. If additional time is needed, contractors can file for an extension, which usually grants an additional six months to file. However, an extension to file does not grant an extension to pay taxes owed; payments must still be made by the original deadline to avoid penalties.

The annual filing process reconciles estimated tax payments with the final calculated tax liability. If estimated payments exceeded the actual tax owed, the contractor may be due a refund. If payments were less than the actual tax owed, the remaining balance must be paid by the filing deadline. Accurate record-keeping of income, expenses, and estimated tax payments is essential for accurate annual filing.