How to Do Taxes for Self-Employment: A Step-by-Step Overview

Handling taxes as a self-employed individual requires more effort than traditional employment, where taxes are automatically withheld. Instead of receiving a W-2, you’re responsible for tracking income, calculating tax payments, and ensuring compliance with IRS rules. Missing deadlines or overlooking deductions can lead to penalties or overpaying.

To avoid these issues, it’s important to correctly report earnings, estimate tax obligations, and take advantage of deductions that reduce taxable income.

Identifying Self-Employed Income

The IRS considers income from any trade or business you operate as a sole proprietor, independent contractor, freelancer, or gig worker as taxable. This includes payments for services, product sales, and certain side jobs. These earnings are typically reported on Form 1099-NEC or 1099-K, depending on how payments are processed. Even if no tax forms are issued, all income must still be reported.

Other taxable sources include tips, commissions, and bonuses. Rental income may qualify if you provide significant services, such as property management or short-term rental hosting. Digital content creators earning through ad revenue, sponsorships, or platforms like Patreon must also report these earnings.

Bartering and non-cash compensation must be reported as income. If you exchange services or receive goods instead of money, the fair market value is taxable. Cryptocurrency payments for services must also be reported based on their value at the time of receipt.

Estimated Tax Obligations

Self-employed individuals must make estimated tax payments if they expect to owe at least $1,000 in taxes. These quarterly payments cover both income tax and self-employment tax, which includes Social Security and Medicare contributions. Deadlines typically fall on April 15, June 15, September 15, and January 15 of the following year.

Calculating quarterly payments can be difficult due to fluctuating income. Form 1040-ES provides a worksheet to estimate payments based on expected earnings, deductions, and credits. Many self-employed individuals follow the “safe harbor” rule—paying at least 90% of the current year’s tax liability or 100% of the previous year’s total tax bill (110% for those with adjusted gross income over $150,000). Adjusting payments each quarter based on actual earnings can help prevent overpaying or underpaying.

State and local taxes may also require estimated payments. Some states have their own deadlines and penalties for underpayment, and certain cities impose local business taxes. Checking state tax agency websites ensures compliance.

Missing a payment or underpaying can result in penalties and interest charges. The IRS calculates these penalties based on the amount underpaid and the length of time the payment was late. To avoid this, many self-employed individuals set aside 25-30% of each payment in a separate account dedicated to taxes. Tax software or professional assistance can help ensure accurate calculations and timely payments.

Deductible Business Costs

Self-employed individuals can lower taxable income by deducting legitimate business expenses. The IRS requires expenses to be “ordinary and necessary” for the business, as outlined in IRS Publication 535. Ordinary expenses are common in the industry, while necessary expenses are helpful for business operations.

A significant deduction is the home office expense for those who use a portion of their residence exclusively for business. This can be calculated using either the simplified method—$5 per square foot up to 300 square feet—or the actual expense method, which tracks costs like mortgage interest, rent, utilities, and maintenance. The space must be used regularly and solely for business.

Vehicle expenses for business travel are another major deduction. The IRS allows two methods: the standard mileage rate (67 cents per mile for 2024) or actual expenses, which include gas, maintenance, insurance, and depreciation. Detailed records, such as mileage logs and receipts, are necessary to substantiate these deductions. Commuting from home to a primary work location does not qualify, but travel between business sites or client meetings does.

Professional services, such as hiring an accountant, lawyer, or consultant, can be deducted. Fees for tax preparation, financial advice, or legal counsel related to business operations qualify. Software subscriptions for accounting, project management, or client communication, like QuickBooks or Zoom, are also deductible if used for business purposes.

Marketing and advertising costs, including website hosting, social media ads, business cards, and branded merchandise, are deductible. Sponsored posts, email marketing services, and search engine optimization (SEO) tools also qualify. The cost of hiring a graphic designer or videographer for promotional content can be written off.

Self-Employment Tax Breakdown

Self-employment tax covers Social Security and Medicare contributions, mirroring payroll taxes withheld from traditional employees. Unlike W-2 workers, who split these costs with their employer, self-employed individuals must cover the full amount. The total self-employment tax rate is 15.3%, with 12.4% allocated to Social Security and 2.9% to Medicare. Only the first $168,600 of net earnings in 2024 is subject to Social Security tax, while Medicare tax applies to all earnings without a cap.

For high earners, an additional 0.9% Medicare surtax applies to income exceeding $200,000 for single filers or $250,000 for married couples filing jointly. This surtax is not included in estimated tax calculations on Form 1040-ES, so affected taxpayers may need to adjust their quarterly payments.

One mitigating factor is the self-employment tax deduction, allowing individuals to deduct half of their self-employment tax when calculating adjusted gross income. This does not reduce the tax owed but lowers taxable income, effectively reducing overall liability.

Keeping Accurate Records

Organized financial records are necessary for accurate tax reporting and IRS compliance. Without proper documentation, self-employed individuals risk misreporting income, missing deductions, or facing audits. The IRS recommends keeping records for at least three years, though in cases of substantial underreporting, records may need to be retained for up to six years.

Accounting software like QuickBooks, FreshBooks, or Wave helps track income and expenses systematically. These tools categorize transactions, generate profit-and-loss statements, and store digital copies of receipts. Bank statements, invoices, and payment confirmations should also be retained. A separate business bank account simplifies tracking and prevents commingling personal and business finances.

Receipts for deductible expenses must be detailed enough to substantiate claims. The IRS may disallow deductions if records are incomplete. For example, meal expenses should include the date, amount, location, and business purpose. Travel expenses require logs detailing mileage, destinations, and the reason for the trip. Digital tools like Expensify or Everlance can automate record-keeping.

Filing Methods

Self-employed individuals report income on Schedule C (Profit or Loss from Business), which is submitted with Form 1040. This form details revenue, deductible expenses, and net profit, which is then used to calculate taxable income. Those with multiple businesses must file a separate Schedule C for each.

Many use tax software such as TurboTax, H&R Block, or TaxAct, which guide users through deductions and ensure compliance. These platforms often integrate with accounting software, reducing manual data entry. For complex tax situations, hiring a certified public accountant (CPA) or enrolled agent (EA) can provide additional assurance.

In some cases, forming a business entity like an S corporation or LLC with an S corp election can reduce self-employment tax obligations. By paying themselves a reasonable salary and taking additional earnings as distributions, business owners may lower the portion of income subject to payroll taxes. However, this requires additional paperwork, including payroll tax filings and corporate tax returns, making it beneficial primarily for those with higher earnings.