You’ve taken on the exciting adventure of being a sole proprietor but now it’s tax season. How do you file sole proprietor taxes? We’re going to walk you through the process to file sole proprietor taxes in our comprehensive self-employed tax guide. Stick with us, it’s the only guide you’ll need to get your sole proprietor taxes filed.
Key Things to Keep In Mind With Sole Proprietor Taxes
As we lay the framework for sole proprietor taxes, there are two main points to keep in mind.
- Your business isn’t taxed separately as a sole proprietor. It passes through from the business level and goes on Schedule C of your tax return.
- Sole proprietors are required to file Schedule SE. Schedule SE needs to be filled out to figure out the taxes due on net earnings from your self-employment.
Sole Proprietor Taxes: How They Are Unique
You’re in luck. If you need to file sole proprietor taxes then they are some of the least complex business taxes to file. You can think of a sole proprietor’s business connected to the business owner’s tax return.
A sole proprietor tax return is just like a normal tax return with a Form 1040 but you are also going to need to file a Schedule C. This is where you are going to capture your business income and expenses. Since the income and expenses flow through from the business to your personal return, the IRS labels this as “pass-through taxation”. The income effectively passes through from your business. So what implication does this have?
When you pass through business income from your business, it very likely can put you in a higher tax bracket than without being connected to the business. On the bright side, the business isn’t double-taxed like some other business structures.
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Treating an LLC as a Sole Proprietor for Taxes: What to Know
There is one other way that sole proprietor taxes are filed even if the business isn’t just a sole proprietor election. Essentially single member LLCs are treated as sole proprietors from a tax standpoint.
Multiple member LLCs are treated as a partnership for taxes. By using Form 8832, single-member and multiple-member LLCs can also choose to file as a corporation. Just remember that the initial decision to classify as a sole proprietor or an LLC is made with your state.
What You Need to File Sole Proprietor Taxes
Even if you don’t have a CPA at this stage or a tax program, you’ll need to pull your support together for your sole proprietor return. Some of the items you’ll need to support your tax return include:
Income support: This includes all the money you earned from your business, such as invoices, receipts, business investment account and bank statements.
Expense receipts: This includes all the money you spent on your business, such as office supplies, rent, and utilities.
Business miles: Keep track of all the miles you drive for business purposes.
Home office expenses: If you work from home, keep track of all the expenses related to your home office, such as rent, utilities, and home insurance.
The easiest way to track all of these items year over year is to use a bookkeeper if you don’t keep the books yourself. Two simple and popular software choices for sole proprietors are Freshbooks and Quickbooks. When tax season comes around, you’ll just need to export and hand off the files to a CPA or preparer.
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What Forms Do You Need to File as a Sole Proprietor?
As a sole proprietor, you will need to file your taxes using Schedule C (Form 1040). This form is used to report your income and expenses from your business. You will also need to attach Schedule SE (Form 1040) to calculate your self-employment tax. These two forms are the minimal for a sole proprietor. The IRS breaks it down in an easy to understand format similar to this:
Forms for Sole Proprietorships
| If you are liable for: | Then use form: |
| Income tax | 1040, U.S. Individual Income Tax Return and Schedule C (Form 1040 or 1040-SR), Profit or Loss from Business |
| Self-employment tax | Schedule SE (Form 1040), Self-Employment Tax |
| Estimated tax | 1040-ES, Estimated Tax for Individuals |
| Social Security and Medicare taxes and income tax withholding | 941, Employer’s Quarterly Federal Tax Return, 943, Employer’s Annual Federal Tax Return for Agricultural Employees, 944, Employer’s Annual Federal Tax Return |
| Providing information on Social Security and Medicare taxes and income tax withholding | W-2, Wage and Tax Statement (to employee)and W-3, Transmittal of Wage and Tax Statements (to the Social Security Administration) |
| Federal unemployment (FUTA) tax | 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return |
| Filing information returns for payments to nonemployees and transactions with other persons | Learn more |
| Excise Taxes | Learn more |
For most sole proprietors, as we mentioned, a Schedule C (Form 1040) and Form 1040 will be the bare requirements. Depending on how complex your business is, the forms can quickly stack up and you may want to consult a CPA for your taxes.
Filling Out Your 1040
We’re not going to dive much into it here but just like filing for an individual, you’ll need to complete Form 1040. We’ve gone into everything you need to prepare a Form 1040 and it is very similar to a business in the sense that you will have income and deductions but at a personal level.
Your business return will be similar but an extension of yourself. Let’s take a look.
Moving Onto Your Schedule C (Sole Proprietor Return)
Schedule C (Form 1040) is used to report your income and expenses from your business. You will need to list all your income and expenses on this form, and calculate your net profit or loss.
You can deduct all the ordinary and necessary expenses related to your business, such as:
- Advertising
- Rent
- Depreciation
- Utilities
- Wages
- Travel
- Supplies
While not comprehensive, Schedule C (Form 1040) lays out all expenses you can capture. This is where it is useful to have an income statement from your bookkeeping program. You can match up your expenses from your bookkeeping program and key them into your return.
As you get everything filled out, you will get to your sole proprietorship’s taxable income. This is the amount you will pay income tax on. You do not pay tax on your top-line business income number so don’t be shocked by that. We need to get to the bottom line taxable income.
Once you reach line 31, net profit or loss, you’ll have a number close to the amount you will pay taxes on but there still may be a few more adjustments.
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Common Issues With Schedule C (Form 1040): Things to Avoid
Often when sole proprietors prepare their own taxes, we see two common issues. The first is incorrectly deducting business expenses and the second is incorrectly recording cash activity during the year.
We get it, as a business owner you want to pay as little tax as possible. There is a fine line though between claiming business expenses and claiming expenses that aren’t for your business. Some common areas that business owners get into trouble are overtaking mileage or claiming travel expenses when the trip was more for personal vacation than business purposes.
Whenever you take these expenses, you are going to want to have good record keeping in place and justification in case the IRS ever comes back and questions them. Business mileage is different from commuting mileage which isn’t tax deductible.
The other issue is when a sole proprietor keeps their own books but messes up their cash activity. The two big areas are putting money into the business and taking money out. Neither are tax deductible. This means you shouldn’t be putting your owner’s draw as an expense on Schedule C (Form 1040) or any cash you put into the business.
Sole Proprietor Self-Employment Tax With Schedule SE (Form 1040)
The next schedule that you will eventually have to complete is Schedule SE (Form 1040). Self-employment tax is a tax that is paid by self-employed individuals/ business owners to cover their Social Security and Medicare taxes.
Now that your Schedule C is complete you will need to fill out Schedule SE to calculate your self-employment tax. You will need to pay 15.3% of your net earnings up to a certain limit. You can deduct half of your self-employment tax on your income tax return – Schedule C (Form 1040).
As a sole proprietor, you need to be making self-employment tax payments on a quarterly basis even though you are filing Schedule SE (Form 1040) annually. Make sure you submit these payments during the year according to the IRS due dates and that it doesn’t come as a surprise during tax time. To determine your estimated taxes, complete 1040-ES which will give you these quarterly amounts.
Other Sole Proprietor Taxes to Keep in Mind
Generally speaking, the biggest parts of a sole proprietor’s tax return are the 1040 and Schedule C but there can be a lot more to it depending on your type of business. Three other taxes you at least need to be aware of are excise taxes, employment and property taxes. Let’s quickly touch on each.
Excise taxes: Does our business sell tobacco or alcohol? These are some of the most popular items that require excise taxes. Excise taxes are when you need to pay taxes for the goods and services you sell at a state, federal or local level. These taxes are highly location driven and depend on what you sell.
Employment taxes: A more common tax that sole proprietors need to consider is employment taxes. Once you start hiring employees, you’ll have to pay payroll tax. Things immediately get more expensive and more complex. This means you are going to need to file Forms 940 and 941. You’ll be expected to withhold tax from employee paychecks for income taxes, FICA and unemployment. On top of that, you’ll have to report these and issue a W-2 to your employee.
Property taxes: Does your business own land or business property? If so, it’s not uncommon that you’ll have to property tax as well. Generally, this is a state requirement and varies from state to state. If you are unsure, be sure to ask your accountant if you need to file.
Paying Sole Proprietor Taxes: When to File
So you’ve completed your tax return, now what? Either your CPA or software will let you know if you owe taxes or not. The easiest way to pay is online. You’ll need to file and pay at the federal level by April 15 unless an extension is filed.
The tax deadline for states varies state by state so be sure to know which states you need to file and their deadlines. Lastly, don’t forget to be making those estimated tax payments on a quarterly basis for your self-employment taxes.
How Do I File Sole Proprietor Taxes: Final Thoughts
Hopefully you’ve gained a bit of confidence on filling your sole proprietor taxes. It’s not much harder than filing an individual tax return if you have kept good records throughout the year for your business. Use good bookkeeping software to make your small business life easier, a reputable CPA at tax time and you’ll be in a good position when it comes to filing your sole proprietor taxes.
