If you own a growing, unincorporated small business, you may be concerned about high self-employment (SE) tax bills. The SE tax is how Social Security and Medicare taxes are collected from self-employed individuals like you.

SE tax basics

The maximum 15.3% SE tax rate hits the first $168,600 of your 2024 net SE income. The 15.3% rate is comprised of the 12.4% rate for the Social Security tax component plus the 2.9% rate for the Medicare tax component. For 2025, the maximum 15.3% SE tax rate will hit the first $176,100 of your net SE income.

Above those thresholds, the SE tax’s 12.4% Social Security tax component goes away, but the 2.9% Medicare tax component continues for all income.

How high can your SE tax bill go? Maybe a lot higher than you think. The real culprit is the 12.4% Social Security tax component of the SE tax, because the Social Security tax ceiling keeps getting higher every year.

To calculate your SE tax bill, take the taxable income from your self-employed activity or activities (usually from Schedule C of Form 1040) and multiply by 0.9235. The result is your net SE income. If it’s $168,600 or less for 2024, multiply the amount by 15.3% to get your SE tax. If the total is more than $168,600 for 2024, multiply $168,600 by 12.4% and the total amount by 2.9% and add the results. This is your SE tax.

Example: For 2024, you expect your sole proprietorship to generate net SE income of $200,000. Your SE tax bill will be $26,706 (12.4% × $168,600) + (2.9% × $200,000). That’s a lot!

Projected tax ceilings for 2026–2033

The current Social Security tax on your net SE income is expensive enough, but it will only worsen in future years. That’s because your business income will likely grow, and the Social Security tax ceiling will continue to increase based on annual inflation adjustments.

The latest Social Security Administration (SSA) projections (from May 2024) for the Social Security tax ceilings for 2026–2033 are:

• 2026 – $181,800
• 2027 – $188,100
• 2028 – $195,900
• 2029 – $204,000
• 2030 – $213,600
• 2031 – $222,900
• 2032 – $232,500
• 2033 – $242,700

Could these estimated ceilings get worse? Absolutely, because the SSA projections sometimes undershoot the actual final numbers. For instance, the 2025 ceiling was projected to be $174,900 just last May, but the final number turned out to be $176,100. But let’s say the projected numbers play out. If so, the 2033 SE tax hit on $242,700 of net SE income will be a whopping $37,133 (15.3% × $242,700).

Disconnect between tax ceiling and benefit increases

Don’t think that Social Security tax ceiling increases are linked to annual Social Security benefit increases. Common sense dictates that they should be connected, but they aren’t. For example, the 2024 Social Security tax ceiling is 5.24% higher than the 2023 ceiling, but benefits for Social Security recipients went up by only 3.2% in 2024 compared to 2023. The 2025 Social Security tax ceiling is 4.45% higher than the 2024 ceiling, but benefits are going up by only 2.5% for 2025 compared to 2024.

The reason is that different inflation measures are used for the two calculations. The increase in the Social Security tax ceiling is based on the increase in average wages, while the increase in benefits is based on a measure of general inflation.

S corporation strategy

While your SE tax bills can be high and will probably get even higher in future years, there may be potential ways to cut them to more manageable levels. For instance, you could start running your business as an S corporation. Then, you can pay yourself a reasonably modest salary while distributing most or all of the remaining corporate cash flow to yourself. That way, only your salary would be subject to Social Security and Medicare taxes. Contact us if you have questions or want more information about the SE tax and ways to manage it.

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How much can you and your employees contribute to your 401(k)s or other retirement plans next year? In Notice 2024-80, the IRS recently announced cost-of-living adjustments that apply to the dollar limitations for retirement plans, as well as other qualified plans, for 2025. With inflation easing, the amounts aren’t increasing as much as in recent years.

401(k) plans

The 2025 contribution limit for employees who participate in 401(k) plans will increase to $23,500 (up from $23,000 in 2024). This contribution amount also applies to 403(b) plans, most 457 plans and the federal government’s Thrift Savings Plan.

The catch-up contribution limit for employees age 50 or over who participate in 401(k) plans and the other plans mentioned above will remain $7,500 (the same as in 2024). However, under the SECURE 2.0 law, specific individuals can save more with catch-up contributions beginning in 2025. The new catch-up contribution amount for taxpayers who are age 60, 61, 62 or 63 will be $11,250.

Therefore, participants in 401(k) plans who are 50 or older can contribute up to $31,000 in 2025. Those who are age 60, 61, 62 or 63 can contribute up to $34,750.

SEP plans and defined contribution plans

The limitation for defined contribution plans, including a Simplified Employee Pension (SEP) plan, will increase from $69,000 to $70,000 in 2025. To participate in a SEP, an eligible employee must receive at least a certain amount of compensation for the year. That amount will remain $750 in 2025.

SIMPLE plans

The deferral limit to a SIMPLE plan will increase to $16,500 in 2025 (up from $16,000 in 2024). The catch-up contribution limit for employees who are age 50 or over and participate in SIMPLE plans will remain $3,500. However, SIMPLE catch-up contributions for employees who are age 60, 61, 62 or 63 will be higher under a change made by SECURE 2.0. Beginning in 2025, they will be $5,250.

Therefore, participants in SIMPLE plans who are 50 or older can contribute $20,000 in 2025. Those who are age 60, 61, 62 or 63 can contribute up to $21,750.

Other plan limits

The IRS also announced that in 2025:

• The limitation on the annual benefit under a defined benefit plan will increase from $275,000 to $280,000.
• The dollar limitation concerning the definition of “key employee” in a top-heavy plan will increase from $220,000 to $230,000.
• The limitation used in the definition of “highly compensated employee” will increase from $155,000 to $160,000.

IRA contributions

The 2025 limit on annual contributions to an individual IRA will remain $7,000 (the same as 2024). The IRA catch-up contribution limit for individuals age 50 or older isn’t subject to an annual cost-of-living adjustment and will remain $1,000.

Plan ahead

The contribution amounts will make it easier for you and your employees to save a significant amount in your retirement plans in 2025. Contact us if you have questions about your tax-advantaged retirement plan or want to explore other retirement plan options.

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As a business owner, you may travel to visit customers, attend conferences, check on vendors and for other purposes. Understanding which travel expenses are tax deductible can significantly affect your bottom line. Properly managing travel costs can help ensure compliance and maximize your tax savings.

Your tax home

Eligible taxpayers can deduct the ordinary and necessary expenses of business travel when away from their “tax homes.” Ordinary means common and accepted in the industry. Necessary means helpful and appropriate for the business. Expenses aren’t deductible if they’re for personal purposes, lavish or extravagant. That doesn’t mean you can’t fly first class or stay in luxury hotels. But you’ll need to show that expenses were reasonable.

Your tax home isn’t necessarily where you maintain your family home. Instead, it refers to the city or general area where your principal place of business is located. (Special rules apply to taxpayers with several places of business or no regular place of business.)

Generally, you’re considered to be traveling away from home if your duties require you to be away from your tax home for substantially longer than an ordinary day’s work and you need to get sleep or rest to meet work demands. This includes temporary work assignments. However, you aren’t permitted to deduct travel expenses in connection with an indefinite work assignment (more than a year) or one that’s realistically expected to last more than a year.

Deductible expenses

Assuming you meet these requirements, common deductible business travel expenses include:

• Air, train or bus fare to the destination, plus baggage fees,
• Car rental expenses or the cost of using your vehicle, plus tolls and parking,
• Transportation while at the destination, such as taxis or rideshares between the airport and hotel, and to and from work locations,
• Lodging,
• Tips paid to hotel or restaurant workers, and
• Dry cleaning / laundry.

Meal expenses are generally 50% deductible. This includes meals eaten alone. It also includes meals with others if they’re provided to business contacts, serve an ordinary and necessary business purpose, and aren’t lavish or extravagant.

Claiming deductions

Self-employed people can deduct travel expenses on Schedule C. Employees currently aren’t permitted to deduct unreimbursed business expenses, including travel expenses.

However, businesses may deduct employees’ travel expenses to the extent they provide advances or reimbursements or pay the expenses directly. Advances or reimbursements are excluded from wages (and aren’t subject to income or payroll taxes) if they’re made according to an “accountable plan.” In this case, the expenses must have a business purpose, and employees must substantiate expenses and pay back any excess advances or reimbursements.

Mixing business and pleasure

If you take a trip in the United States primarily for business, but also take some time for personal activities, you’re still permitted to deduct the total cost of airfare or other transportation to and from the destination. However, lodging and meals are only deductible for the business portion of your trip. Generally, a trip is primarily for business if you spend more time on business activities than on personal activities.

Recordkeeping

To deduct business travel expenses, you must substantiate them with adequate records — receipts, canceled checks and bills — that show the amount, date, place and nature of each expense. Receipts aren’t required for non-lodging expenses less than $75, but these expenses must still be documented in an expense report. Keep in mind that an employer may have its own substantiation policies that are stricter than the IRS requirements.

If you use your car or a company car for business travel, you can deduct your actual costs or the standard mileage rate.

For lodging, meals and incidental expenses (M&IE) — such as small fees or tips — employers can use the alternative per-diem method to simplify expense tracking. Self-employed individuals can use this method for M&IE, but not for lodging.

Under this method, taxpayers use the federal lodging and M&IE per-diem rates for the travel destination to determine reimbursement or deduction amounts. This avoids the need to keep receipts to substantiate actual costs. However, it’s still necessary to document the time, place and nature of expenses.

There’s also an optional high-low substantiation method that allows a taxpayer to use two per-diem rates for business travel: one for designated high-cost localities and a lower rate for other localities.

Turn to us

The business travel deduction rules can be complicated. In addition, there are special rules for international travel and travel with your spouse or other family members. If you’re uncertain about the tax treatment of your expenses, contact us.

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If you own a small business with no employees (other than your spouse) and want to set up a retirement plan, consider a solo 401(k) plan. This is also an option for self-employed individuals or business owners who wish to upgrade from a SIMPLE IRA or Simplified Employee Pension (SEP) plan.

A solo 401(k), also known as an individual 401(k), may offer advantages in terms of contributions, tax savings and investment options. These accounts are geared toward self-employed individuals, including sole proprietors, owners of single-member limited liability companies, consultants and other one-person businesses.

How much can you contribute?

You can make large annual tax-deductible contributions to a solo 401(k) plan. For 2024, you can make an “elective deferral contribution” of up to $23,000 of your net self-employment (SE) income to a solo 401(k). The elective deferral contribution limit increases to $30,500 if you’ll be age 50 or older as of December 31, 2024. The larger $30,500 figure includes an extra $7,500 catch-up contribution that’s allowed for older owners.

On top of your elective deferral contribution, an additional contribution of up to 20% of your net SE income is permitted for a solo 401(k). This is called an “employer contribution,” though there’s technically no employer when you’re self-employed. For purposes of calculating the employer contribution, your net SE income isn’t reduced by your elective deferral contribution.

For the 2024 tax year, the combined elective deferral and employer contributions can’t exceed:

• $69,000 ($76,500 if you’ll be 50 or older as of December 31, 2024), or
• 100% of your net SE income.

Net SE income equals the net profit shown on Form 1040, Schedule C, E or F for the business, minus the deduction for 50% of self-employment tax attributable to the business.

What are the advantages and disadvantages?

Besides the ability to make significant deductible contributions, another solo 401(k) advantage is that contributions are discretionary. If cash is tight, you can contribute a small amount or nothing.

In addition, you can borrow from your solo 401(k) account, assuming the plan document permits it. The maximum loan amount is 50% of the account balance or $50,000, whichever is less. Some other plan options, including SEPs, don’t allow loans. This feature can be valuable if you need access to funds for business opportunities or emergencies.

The biggest downside to solo 401(k)s is their administrative complexity. Significant upfront paperwork and ongoing administrative efforts are required, including adopting a written plan document and arranging how and when elective deferral contributions will be collected and paid into the owner’s account. Also, once your account balance exceeds $250,000, you must file Form 5500-EZ with the IRS annually.

You can’t have a solo 401(k) if your business has one or more employees. Instead, you must have a multi-participant 401(k) with all the resulting complications. The tax rules may require you to make contributions for those employees. However, there are a few important loopholes. You can contribute to a plan if your spouse is a part-time or full-time employee. You can also exclude employees who are under 21 and part-time employees who haven’t worked at least 1,000 hours during any 12-month period.

Who’s the best candidate for this plan?

For a one-person business, a solo 401(k) can be a smart retirement plan choice if:

• You want to make large annual deductible contributions and have the money,
• You have substantial net SE income, and
• You’re 50 or older and can take advantage of the extra catch-up contribution.

Before establishing a solo 401(k), weigh the pros and cons of other retirement plans — especially if you’re 50 or older. Solo 401(k)s aren’t simple, but they can allow you to make substantial and deductible contributions to a retirement nest egg. Contact us before signing up to determine what’s best for your situation.

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As we approach 2025, changes are coming to the Social Security wage base. The Social Security Administration recently announced that the wage base for computing Social Security tax will increase to $176,100 for 2025 (up from $168,600 for 2024). Wages and self-employment income above this amount aren’t subject to Social Security tax.

If your business has employees, you may need to budget for additional payroll costs, especially if you have many high earners.

Social Security basics

The Federal Insurance Contributions Act (FICA) imposes two taxes on employers, employees and self-employed workers. One is for Old Age, Survivors and Disability Insurance, which is commonly known as the Social Security tax, and the other is for Hospital Insurance, which is commonly known as the Medicare tax.

A maximum amount of compensation is subject to the Social Security tax, but there’s no maximum for Medicare tax. For 2025, the FICA tax rate for employers will be 7.65% — 6.2% for Social Security and 1.45% for Medicare (the same as in 2024).

Updates for 2025

For 2025, an employee will pay:

• 6.2% Social Security tax on the first $176,100 of wages (6.2% × $176,100 makes the maximum tax $10,918.20), plus
• 1.45% Medicare tax on the first $200,000 of wages ($250,000 for joint returns, $125,000 for married taxpayers filing separate returns), plus
• 2.35% Medicare tax (regular 1.45% Medicare tax plus 0.9% additional Medicare tax) on all wages in excess of $200,000 ($250,000 for joint returns, $125,000 for married taxpayers filing separate returns).

For 2025, the self-employment tax imposed on self-employed people will be:

• 12.4% Social Security tax on the first $176,100 of self-employment income, for a maximum tax of $21,836.40 (12.4% × $176,100), plus
• 2.90% Medicare tax on the first $200,000 of self-employment income ($250,000 of combined self-employment income on a joint return, $125,000 on a return of a married individual filing separately), plus
• 3.8% (2.90% regular Medicare tax plus 0.9% additional Medicare tax) on all self-employment income in excess of $200,000 ($250,000 of combined self-employment income on a joint return, $125,000 for married taxpayers filing separate returns).

History of the wage base

When the government introduced the Social Security payroll tax in 1937, the wage base was $3,000. It remained that amount through 1950. As the U.S. economy grew and wages began to rise, the wage base needed to be adjusted to ensure that the Social Security system continued to collect sufficient revenue. By 1980, it had risen to $25,900. Twenty years later it had increased to $76,200 and by 2020, it was $137,700. Inflation and wage growth were key factors in these adjustments.

Employees with more than one employer

You may have questions about employees who work for your business and have second jobs. Those employees would have taxes withheld from two different employers. Can the employees ask you to stop withholding Social Security tax once they reach the wage base threshold? The answer is no. Each employer must withhold Social Security taxes from an employee’s wages, even if the combined withholding exceeds the maximum amount that can be imposed for the year. Fortunately, the employees will get a credit on their tax returns for any excess withheld.

Looking ahead

Do you have questions about payroll tax filing or payments now or in 2025? Contact us. We’ll help ensure you stay in compliance.

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The IRS has been increasing its audit efforts, focusing on large businesses and high-income individuals. By 2026, it plans to nearly triple its audit rates for large corporations with assets exceeding $250 million. Under these plans, partnerships with assets over $10 million will also see audit rates increase tenfold by 2026. This ramp-up in audits is part of the IRS’s broader strategy, funded by the Inflation Reduction Act, to target wealthier entities and high-dollar noncompliance.

The IRS doesn’t plan to increase audits for individuals making less than $400,000 annually. Small businesses are also unlikely to see a rise in audit rates in the near future, as the IRS is prioritizing more complex returns for higher-wealth entities. For example, the tax agency has announced that one focus area is taxpayers who personally use business aircraft. A business can deduct the cost of purchasing and using corporate planes, but personal trips, including vacation travel, aren’t deductible.

Preparation is key

The best way to survive an IRS audit is to prepare in advance. On an ongoing basis, you should systematically maintain documentation — invoices, bills, canceled checks, receipts, or other proof — for all items to be reported on your tax returns. Keep all records in one place.

It also helps to know what might catch the attention of the IRS. Certain types of tax return entries are known to involve inaccuracies, so they may lead to an audit. Some examples include:

• Significant inconsistencies between tax returns filed in the past and your most current return,
• Gross profit margin or expenses markedly different from those of other businesses in your industry, and
• Miscalculated or unusually high deductions.

The IRS may question specific deductions because there are strict recordkeeping requirements associated with them — for example, auto and travel expense deductions. In addition, an owner-employee’s salary that’s much higher or lower than those at similar companies in his or her location may catch the IRS’s eye, especially if the business is structured as a corporation.

How to respond to an audit

If the IRS selects you for an audit, it will notify you by letter. Generally, the IRS doesn’t make initial contact by phone. But if there’s no response to the letter, the agency may follow up with a call.

Many audits simply request that you mail in receipts or other documentation to support certain deductions you’ve claimed. Only the strictest version, the field audit, requires a meeting with one or more IRS auditors. (Note: Ignore unsolicited emails or text messages about an audit. The IRS doesn’t contact people in this manner. These are scams.)

The tax agency doesn’t demand an immediate response to a mailed notice. The IRS will inform you of the discrepancies in question and give you time to prepare. Collect and organize all relevant income and expense records. If anything is missing, you’ll have to reconstruct the information as accurately as possible based on other documentation.

If you’re audited, our firm can help you:

• Understand what the IRS is disputing (it’s not always clear),
• Gather the specific documents and information needed, and
• Respond to the auditor’s inquiries in the most effective manner.

The IRS usually has three years to conduct an audit, and it probably won’t begin until a year or more after you file a return. Stay calm if the IRS contacts you. Many audits are routine. By taking a meticulous, proactive approach to tracking, documenting and filing your company’s tax-related information, you’ll make an audit more manageable. It may even decrease the chances you’ll be chosen in the first place.

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