When you file your taxes you are permitted to take either a standard deduction or you may take an itemized deduction if that is larger. This blog will explain the difference between self-employment vs. income tax, business and personal deductions, and standard vs itemized deductions,
For US federal taxes, we pay two kinds of tax. We pay income tax which is a based on taxable income. Taxable income is your total income earned less deductions such as standard or itemized, deducting self-employed health insurance, traditional IRA contribution, student loan deduction, and other deductions.
We also pay social security and medicare tax, which is based on employment or business income. We call this tax “payroll tax” when it’s for an employee. The employer pays 7.65% and the employee pays 7.65%. We call this tax “self-employment tax” when it’s for a self-employed business owner. The self-employed owner pays the entire 15.3% and deducts half of it, which is deducted from total income as mentioned in the paragraph above.
If your business is a sole proprietor or LLC, you will pay self-employment tax on your self-employed business income, which is the way in which you pay into social security and medicare. If you are a Corp owner, you will have an owners W2 salary and the payroll tax on your salary will be your payment into the social security and medicare tax systems.
Standard and itemized deductions are personal deductions. Every taxpayer can take them on their personal tax return.
If you own a business, you also get business deductions which are deducted from your business revenue. Business deductions reduce your taxable income in a different way as shown in the example below. Your business has revenue from clients, customers or patients. You also incur expenses to run the business. It might look like this:
