Regarding self-employment taxes: a. Self-employed individuals may deduct one-half of the self-employment tax paid as an itemized deduction. b. For high-income taxpayers, an additional Medicare tax of 3% applies. c. Medicare taxes withholding only applies to the first $160,200 of wages. d. The Social Security tax rate is 1.45% of all wages. e. Self-employed individuals must pay both the employee and employer shares of the Social Security and Medicare tax.
The correct answer and explanation is:
The correct answer is e. Self-employed individuals must pay both the employee and employer shares of the Social Security and Medicare tax.
Self-employed individuals are subject to the same Social Security and Medicare taxes that employees pay through payroll withholding, but they are required to pay both portions (the employee and employer shares) as part of their self-employment tax. The total rate for Social Security is 12.4%, which is divided into two parts: 6.2% for the employee portion and 6.2% for the employer portion. For Medicare, the rate is 2.9%, split between 1.45% for the employee and 1.45% for the employer.
Because self-employed individuals are considered both the employee and employer, they are responsible for the entire 15.3% combined rate (12.4% for Social Security and 2.9% for Medicare) on their net self-employment income. However, there is a tax benefit where self-employed individuals can deduct the employer portion (half) of the self-employment tax when calculating their adjusted gross income. This does not reduce their net income subject to self-employment tax but provides a deduction for income tax purposes.
Other options provided contain inaccuracies:
- Option a is partially correct, as self-employed individuals can deduct half of their self-employment tax, but this deduction is an income tax deduction, not an itemized deduction.
- Option b is accurate regarding the additional 0.9% Medicare tax for high-income earners, but the question refers to self-employment tax specifically.
- Option c incorrectly states that Medicare taxes are withheld only on the first \$160,200 of wages. The Medicare tax applies to all wages, with no cap, although there is a cap for Social Security tax.
- Option d is incorrect because the Social Security tax applies only to wages up to the annual wage base limit, not to all wages.
Thus, the correct answer is e, as self-employed individuals are responsible for both portions of Social Security and Medicare taxes.