In American law, two almost equivalent terms are used: sole proprietorship and self-employed, which mean the same thing. Since the entrepreneur runs a business and owns it independently, he is self-employed. And self-employment actually means that a person works for himself, this term is used in business speech.

Registration of individual entrepreneur or self-employment is not required, it is enough to have a tax identification number and submit declarations, so government agencies will learn about the implementation of income-generating activities, the tax on which is mandatory. A self-employed individual pays the same taxes as an employee on a progressive scale. Applying deductions or registering a business can help optimize taxation.

What does it mean to be self-employed, sole proprietorship

Any activity carried out for the purpose of making a profit and generating income is a business, including:

· full-time and part-time self-employment;

· provision of services in free time (e.g. weekends, evenings);

· Operating as a partner or independent contractor.

If the activity generates income, quarterly income tax must be paid. In addition, there is an obligation to pay social security tax and health care contributions.

Peculiarities of taxation

There are the following specific features of taxation of individuals, individual entrepreneurs and self-employed in the United States:

1. End-to-end reporting.

Self-employed people and sole proprietors pay tax as individuals and report the relevant income and expenses in their personal income tax return. Business is not taxed separately. This type of reporting is called "pass-through" because all income is recorded in one form.

2. Filling in the declaration (Form 1040) of Table C "Profit and loss".

U.S. taxpayers use Form 1040 to file their annual income tax return, and employees file it if their income exceeds a certain amount.

3. Taxation of all business profits (income minus expenses), regardless of the amount of funds withdrawn.

Even if at the end of the year there are funds left in the bank account (for example, for advertising or marketing in future periods), you will have to pay tax on this money in accordance with the general procedure.

4. The need to keep separate records of business and personal expenses.

A clear segregation is necessary, as business expenses can be deducted from taxable income. One of the most successful solutions is to keep separate cheque books for business and personal expenses, and it is also necessary to pay all business expenses from a current account opened for business.

5. Deductibility of business expenses

Most of the funds spent on:

· operating expenses;

· products for business;

· Advertising;

· Travel.

You can also spend part of the money spent on meals during trips, business meetings, etc., that is, necessary for running a business and part of the start-up costs spent on starting a business: purchase of equipment, etc.

Pass-through tax deduction

Deductions are a separate big topic, a special place here is occupied by the additional personal deduction for pass-through tax established by the Law on Tax Cuts and Jobs. The deduction was introduced for the period from 2018 to 2025. It makes it possible to reduce the tax base, net business income (minus expenses) by almost 20%.

Entrepreneurs with income in excess of a certain amount set annually (in 2023 - $182,000 for single taxpayers, 364,200 for couples filing a joint return) can only claim this deduction if they have employees or depreciable property. Moreover, the deduction is limited to a percentage of the salary of employees or the value of property.

Personal service entrepreneurs with annual incomes in excess of $464,200 (for married) and $232,100 (for unmarried) are not eligible for the pass-through tax deduction. The income limit is adjusted each year to account for inflation.

Taxes of an entrepreneur (self-employed) in the United States

An individual, an entrepreneur running a self-employed business, pays income tax at a progressive rate in the United States and social security and health insurance contributions. Together, these contributions are also referred to as the self-employment tax. Contribution rates are the same for entrepreneurs and employees.

There are a total of seven income tax rates: 10%, 12%, 22%, 24%, 32%, 35%, and 37%. The status and income of the taxpayer determine the tax rate. In the United States, a progressive taxation system is applied, with different income thresholds for different rates. That is, a person's income can fall into different limits and be taxed at different rates. The marginal rate, the highest, does not mean that the entire tax will be calculated according to it, only a certain part of the income tax in excess of the established limit will be determined at the marginal rate. At the same time, people with higher incomes pay higher taxes.

Example: 2023 tax rates for single taxpayers.

Income limits are adjusted annually for inflation to avoid tax increases as the cost of living rises. Tax rates will apply until 2025, and income limits are set annually.

The social security contribution is 12.4 per cent (up to a certain amount of income above which the contribution is not charged) and the health care contribution is 2.9 per cent. For employees, contributions are deducted by the employer when paying salaries, while employers calculate and pay them independently. In addition, employees pay only half of the contributions, the other part is paid by the employer. Entrepreneurs pay the contributions on their own, however, taking into account the possibility of applying deductions.

The tax return is filed and taxes are paid by April 15 of the following year. Spouses can file a joint return if each is a U.S. resident or citizen. Entrepreneurs are also required to make quarterly payments of estimated tax. Therefore, it is necessary to have sufficient funds in the accounts, calculate the amount of tax at the end of each year, and pay estimated tax quarterly.

Optimization of taxation of entrepreneurs, self-employed

The most common option is deductions, it is necessary to use all possible deductions, they can not only reduce taxable income, but also transfer the entrepreneur to a lower tax rate. In addition to the application of deductions, there is another way - the incorporation of the business, that is, the creation of an ordinary corporation "C".

Advantages of using the model of doing business through corporation "C":

· for tax purposes, it is treated as a separate entity from its owners;

· The owners of the corporation do not pay tax on the profits of the corporation unless they receive dividends or salaries, bonuses as employees. That is, owners are not automatically subject to income tax;

· A corporation pays tax on all profits remaining in the business. It is possible to apply a rate of 21% on this profit, while for an entrepreneur it can reach 37%.

Corporations pay corporate tax. Under the Law on Tax Cuts and Jobs, a flat corporate tax rate of 21% has been established, instead of the previous rates ranging from 15 to 35%. The rate of 21% is lower than the five highest income tax rates for individual entrepreneurs.

However, the corporation also has a disadvantage, it cannot take advantage of the 20% deduction established by the Tax and Jobs Reduction Act. A corporation can be beneficial for entrepreneurs with a high level of income, as it allows you to leave money in the business for development and pay taxes on it at a rate of 21% instead of higher ones (recall that there are only five out of seven of them).

Also, corporate taxation is much more complex than pass-through taxation. Therefore, it is necessary to make a decision based on specific circumstances, taking into account the amount of income and data on taxation of individuals and corporations. If your own knowledge of taxation is not enough, it is recommended to use the advice of a small business or tax lawyer. A competent lawyer will be able to help optimize taxation, apply all deductions, minimize costs and risks.

The Internal Revenue Service (IRS) has a special taxpayer protection service that offers assistance to anyone who is experiencing difficulties with tax issues.

There is also a support service for low-income taxpayers, LITC, its divisions are independent, not controlled by the IRS. LITC employees represent the interests of citizens with an income below a certain level during inspections, proceedings and disputes with the tax authorities, they provide the necessary information in different languages. Most often, the services are free or provided for a small fee.