What’s the Scoop with Payroll Taxes and Being an Independent Contractor?

It is just a scaled down version of what you would have with a multiple employee business, but in this case you are the sole employee.

There are 2 different taxes that make up what are called payroll taxes. The first is Social Security which is sometimes called FICA for Federal Insurance Contributions Act or OASDI for Old-Age, Survivors, and Disability Insurance. The second is Medicare also known by its lesser name of HI for Health Insurance.

There are 2 “halves” of the collection of payroll taxes that have historically been equal, but for 2011 there has been a change, which I will get into later. The one half that most people already know about because they have seen it taken out of every paycheck they have ever received. The other half is sometimes overlooked because the employer pays it.

For 2011, in an attempt to further stimulate the economy, the Federal government has given a temporary reduction to the employee half of Social Security taxes by 2% to most employees, so right now it is 4.2% instead of the historical 6.2%. The employer side was unaffected, so it is still at 6.2%. Social Security taxes are collected up to what is called the Wage Base, which gets adjusted upward every year, and for 2011 sits at a maximum of $106,800, meaning that any income earned above and beyond that level is exempt from Social Security taxes.

Medicare taxes currently sit at 1.45% for each the employee and the employer.

When you are an employee of your own company, or a Sole Proprietor or Partner in a Partnership, then you are both the employer and the employee, so you are responsible for both halves.

Thus currently, in 2011, the total employee plus employer withholding for Social Security and Medicare taxes is 13.3%, down from the historical 15.3% from 2010 and earlier. The tax holiday law was written as a single year law only for 2011, but there is debate as to whether it will be extended into 2012 and beyond, so stay tuned for any updates and I will keep you posted. The government seems reluctant these days to end tax breaks, which could be good in the short term, but likely will make matters worse down the road when we have to make up the future shortfalls, which will now be even bigger.

I'd love to hear what you have to say on the subject, so please join the conversation by posting your comments and/or questions below.