Taking business deductions creates two problems for the self-employed:
Deductions encourage self-employed workers to compete in “a race to the bottom“. Self-employed try to earn the least money possible in order to pay as little as possible towards SE (Social Security/Medicare) taxes. Instead of focusing on growing their business, they fixate on keeping it in check by spending more and thus, earning less.
Deductions can threaten self-employed worker’s retirement. The US Social Security Administration uses NET BUSINESS EARNINGS rather than gross business earnings to determine unincorporated self-employed workers’ Social Security eligibility and payout at retirement.
Yet, it’s in the interests of our Social Security system for the government to encourage self-employed to earn more money. In fact, it’s in the best interests of all Americans to help self-employed businesses survive and thrive. That’s why I’ve proposed a “No-Cost Tax Break for Self-Employed“.
But even if we reform the SE tax rate, how do we get self-employed workers’ incomes headed upwards instead of downwards?
What do self-employed business deductions include?
Unlike employees, self-employed workers must pay for all of their own business expenses. When I began examining my own business to see how I could make a higher income, I realized that I was spending a lot of time providing services for my own business along with performing direct services for my clients. Still, I had to take care of these support tasks if I wanted to stay in business.
I found that periodically, I had to create a new purpose or mission for my business. I needed to create forms and handle invoicing, payments and record-keeping. I invented new “business processes” to increase my efficiency.
For example, in pre-computer times, I used a device formerly used in libraries to sort check-out slips for books to speed up my own sorting of 3×5 index cards when creating the final version of a back-of-the-book index.
I also answered the phone, bought new equipment, office furniture, subscriptions, and office supplies. I put together my own marketing system and advertising materials, etc.
And I had to take care of my own “employee-self“ benefits – life insurance, health insurance, accident and disability insurance, and retirement savings. I had to pay for my own continuing education and networking. Sick days and holidays? Forget about it. I had no time left over to take time off from work.
I discovered that self-employed workers frequently wind up working nights and weekends just to pay the bills for things they can deduct on IRS Schedule C.
Beating the IRS’ deductions trap
Your first instinct after reading this post may be to spend less and deduct less. If so, don’t listen to yourself! This kind of thinking leads to the bottom, not to the top.
There are three ways to profit from a business: improve efficiency, cut costs, and/or charge higher prices. Here’s one way to make progress towards all three of those goals.
Hire other self-employed people or independent contractors on a part-time or as-needed basis to do tasks that you can’t fold into your client bills.
If you’re creating or revising your business plan, estimate the costs for your business support services for your financial statements. To determine which of your costs are support costs please see my article, “Self-Employment: How Many Hats Do You Wear?“
If you’re already self-employed and you find you aren’t earning enough to even think of hiring someone else, start with necessary services that cost you less money than you make per hour. The “wage differential” between what you earn and what those you hire earn will put more money in your pocket.
Make more profit
Your potential savings come from the fact that hiring other self-employed will open up more time for you to do the work you can charge clients for. Every minute you save should go into doing your own work. This is how to put more money in your pocket.
In addition, other self-employed professionals could have expertise and “business processes” that make them much more productive than you will be trying to do their jobs. This opens up even more time for you to do your work – and earn a higher income.
Even if you hire someone who earns more than you per hour, you could profit from the time they save you.
Lastly, if you really need to pay less SE tax, you could take a Schedule C deduction for the costs of hiring self-employed and independent contractors to support your business.
Hiring other self-employed professionals who don’t require training or benefits can help both your business and our economy to grow.
To stay in business and be successful – SPEND more money in ways that truly help you to EARN more money. Free up your time to do the work that you went into business to do.