The tax deductions below are available to the self-employed, but they’re not always known and/or claimed on tax returns. Read on to find out how these important credits and deductions can help reduce your tax bills.

Home Office Deduction

A portion of the total cost of your mortgage or rent payment can be deducted if you work from home. The amount that can be deducted is dependent on the amount of space in the home that you use as a dedicated home office. There are two methods for calculating the business use of home deduction:

• Simplified: This method simply multiplies $5 by the square footage of the home that is used exclusively as office space (limited to 300 square feet). If more than one self-employed person works within the dedicated home office space, each person may deduct up to $1,500 using this method.
• Regular: This method requires you to itemize all expenses directly related to the home office, including furniture, appliances, utilities, insurance, maintenance, and repairs. Itemize your expenses using IRS Form 8829, and be sure to keep accurate receipts.

Use of Vehicle for Business

If you regularly use your car or truck as part of your business, you may be eligible to deduct the use on your tax return. Just as with the home office deduction, there are two methods to calculating these expenses:

• Standard mileage rate: For this method, you take the number of business miles driven and multiply that number by a flat per-mile rate. The per-mile rate can vary from year to year. For 2021, the rate is 56 cents per mile, which is a decrease from 57.5 cents in 2020.
• Actual expense method: This method allows you to deduct specific costs associated with operating your business vehicle, such as gas, oil changes, tires, registration fees, insurance, and depreciation. However, if your vehicle is used for both work and personal use, you need to calculate the portion of the operating costs that you incurred during business travel.

Determine which method is best for you by thinking about your specific circumstances. If the ongoing costs associated with using your work vehicle are relatively low, the standard mileage rate may be the best approach, but if you regularly have a lot of expenses to cover with your work vehicle, the actual expense method might be best.

Health Insurance

You may be able to deduct the cost of health insurance premiums if you are self-employed and pay for your own health insurance plan. The deduction is also applicable to your spouse, dependents, and any children under 27 who are on your health insurance plan, no matter if you claim them on your tax return or not. However, if you or your spouse were eligible to participate in an employer-sponsored health plan, you won’t qualify for this deduction.

Retirement Savings

There are several types of retirement plans specifically for the self-employed on which you can deduct contributions and reduce your taxable income.

• Simplified Employee Pension (SEP) IRA: Self-employed people are eligible to contribute up to 20% of net earnings, and that contribution is fully tax-deductible. Because self-employment tax is calculated before SEP contributions, these contributions do not affect self-employment tax.
• Simple IRA: If you have fewer than 100 employees and those employees received at least $5,000 of compensation in the prior calendar year, you are eligible to participate in a Simple IRA. Contributions are fully tax deductible. With a Simple IRA, you do not have to meet some rules that are applicable to other qualified plans such as a 401(k), but keep in mind that Simple IRA plans are capped at $13,500 with an additional $3,000 for employees 50 and older.
• Solo 401(k): This is an individual 401(k) designed for a business owner with no employees, though you can use the plan to cover both you and your spouse. Participants were able to contribute up to $58,000 in 2021 with an additional $6,500 catch-up contribution for ages 50 and older. This contribution limit is broken into ‘employer’ and ‘employee’ contributions. For 2021, as an ‘employee’ you could make contributions up to $19,500, and as an ‘employer’ you could make contributions up to 25% of net earnings for a combined maximum contribution of $58,000 ($61,000 in 2022).

Employer contributions to solo 401(k) plans are fully tax-deductible, while employee contributions can wither be deferred or can be contributed to a Roth solo 401(k).

Social Security Taxes

Workers who are employed by someone else have payroll taxes deducted from their paychecks. The employer matches that contribution, then sends the taxes to the IRS. However, when you’re self-employed you’re considered both the employer and employee. This means that it’s your responsibility to withhold Social Security from your earnings, contributing the employer’s matching portion of Social Security and the individual’s portion. The total self-employment tax rate is 15.3 % (12.4% for Social Security + 2.9% for Medicare). The 15.3% tax is owed if your net earnings for the year are greater than $400. The good news for the self-employed is that they can write off half of the self-employment tax without needing to itemize. For tax year 2021, the maximum amount of self-employment income that’s subject to the 12.4% Social Security tax is $142,800. In 2022, it increases to $147,000.

Covid-Related Sick and Family Leave Credits

If you are self-employed and were unable to work at any point during January 1, 2021 through September 30, 2021, due to certain COVID-19 related circumstances, you may be eligible to claim sick and family leave credits that are similar to credits authorized for other businesses. This includes any telework or remote work. These circumstances include personal sickness or quarantine, awaiting the results of a COVID test, and caring for a dependent who was sick or unable to attend school or daycare because of sickness, closure, or quarantine.

The credit amounts are contingent on various factors, such as the reason for missed work, when you missed work, and the duration of missed work. Use IRS Form 7202 to calculate your credits.

Qualified Business Income Deduction

The Qualified Business Income Deduction, or QBI or Section 199A allows eligible business owners, including sole proprietors, to deduct up to 20% of their qualified business income. In general, total taxable income in 2021 must not exceed $164,900 for single filers and $329,800 for joint filers. These limits increase in 2022 to $170,050 for single filers and $340,100 for joint filers. If your taxable income is greater than these limits, complicated IRS rules will determine whether your business income qualifies for a full or partial deduction.

Expensing

The IRS has a method for claiming purchased equipment by deducting the expenses over the number of years the IRS figures is the “life” of the equipment, but this approach is complicated. Enter the Section 179 deduction, also known as expensing, which lets you deduct 100% of the qualifying cost in the first year. For the 2021 tax year, up to $1.05 million worth of equipment is acceptable for the immediate write-off of expensing ($1.08 million for 2022), but that amount declines if you place more than $2.62 million of new assets into service during any single year ($2.7 million for 2022).

The tax break is applicable to physical items such as equipment (new and used), machinery, office furniture, etc. as well as improvements to business buildings and fire alarm and security installations. Intangible assets such as patents and copyrights do not qualify for the deduction, and neither do purchased land and real estate.