Definition and Example of SECA Tax
The Self-Employment Contributions Act (SECA) tax is paid by individuals who are self-employed. The tax is imposed on a portion of their net earnings to contribute to funding Social Security and Medicare programs.
How Does SECA Tax Work?
Unlike the Federal Insurance Contributions Act (FICA) tax, which is paid through payroll deductions from employees’ wages, self-employed individuals are responsible for paying SECA tax through estimated tax payments each quarter, or with a payment when extending the time to file a tax return, and/or through a payment when filing their income tax return.
While you must estimate SECA tax throughout the year as part of determining the quarterly tax due, your actual liability to pay SECA tax for the year is calculated on Schedule SE, which is filed with Form 1040. Schedule SE uses the information calculated on Schedule C, which calculates net profits from self-employment.
You do not make separate SECA tax payments and regular income tax payments; they are typically combined and paid together. However, since SECA tax is paid in addition to regular income taxes, it is possible to be liable for SECA tax but not liable for regular income tax. This situation usually arises when you have at least $400 of net profits from self-employment but your taxable income for the year is less than the standard deduction amount for your tax filing status.
Note: SECA tax is calculated on an individual basis. Even if a couple files a joint return, each spouse’s liability to pay SECA tax for the year is calculated separately from their spouse’s.
Types of SECA Tax
SECA tax consists of Social Security tax and Medicare tax.
Social Security Tax
The Social Security component of SECA tax is 12.4% of 92.35% of net earnings from self-employment. However, there is an annual wage cap.
In 2022, only the first $147,000 of combined wages, compensation, and income from self-employment is subject to the Social Security component of SECA tax. This amount is known as the annual Social Security wage base, and it changes every year. In 2023, the annual Social Security wage base is set at a higher amount of $160,200.
For example, let’s assume you earned $150,000 in 2022 from all wages, compensation, and self-employment income. You would only pay the Social Security component of SECA tax on the first $147,000. The Social Security component would not apply to the remaining $3,000 of your earnings as it is income above the base wage limit.
Medicare Tax
The Medicare component of SECA tax is 2.9% of 92.35% of net earnings from self-employment.
Unlike the Social Security tax, there is no wage cap on the Medicare component of SECA tax. The tax is applied to the total net earnings from wages, compensation, and self-employment income.
Additional Medicare Tax
If your combined wages, compensation, and self-employment income exceed a certain amount for your tax filing status, you are required to pay an Additional Medicare Tax of 0.9% on wages, compensation, and self-employment income. This tax is not considered part of SECA tax.
The income thresholds for paying the Additional Medicare Tax are as follows:
- Married Filing Separately: $200,000
- Married Filing Jointly: $250,000
- Married Filing Separately: $125,000
- Head of Household with Qualifying Person: $200,000
- Qualifying Widow(er) with Dependent Child: $200,000
SECA Tax vs. FICA Tax
SECA tax and FICA tax are similar; they have the same tax rates and fund the same programs: Social Security and Medicare.
The difference
Between these two taxes, it is clear who pays them. Self-employed individuals pay SECA tax, while employees and employers pay FICA tax. FICA tax is divided as follows:
- Social Security: 1.45% for the employer and 1.45% for the employee
- Medicare: 6.2% for the employer and 6.2% for the employee
Do I Need to Pay SECA Tax?
If your net earnings from self-employment in 2021 were $400 or more and you did not earn more than $142,800 from other income, or you made $108.28 from church employee income, you likely need to pay SECA tax. However, if you had less than $400 in net earnings from self-employment for the given year, you generally will not be required to pay SECA tax for that year. The SECA tax rates for self-employment income remain the same in 2022, but with a higher wage base limit of $147,000.
However, it is possible to obtain an exemption from SECA tax using Form 4631 if you are an ordained minister in a church, a member of a religious order that has taken a vow of poverty, or a practitioner of Christian Science.
Note: You may be able to avoid paying SECA tax on the business portion of your self-employment income by electing S-corporation status. However, you will still be required to withhold FICA tax on the wages you pay yourself from your business. Electing S-corporation status could also incur additional administrative costs and state taxes. It is important to research and consult with a tax professional to determine if electing S-corporation status is a smart move for your business.
What is the SECA Tax Rate?
SECA tax is typically 15.3% of 92.35% of your net earnings from self-employment. However, if you have wages and other compensations subject to FICA tax, it is possible that some or all of your net earnings from self-employment may be exempt from the Social Security component of 12.4% in SECA tax.
If you must pay SECA tax, you are eligible to deduct half of the SECA tax amount on your individual tax return. This deduction is granted to provide you with some benefit for paying the “employer” portion of Social Security and Medicare tax obligations above the “employee” portion.
Criticism of SECA Tax
Some taxpayers object to the belief at the IRS that they should have the right to waive their Social Security benefits and thus reclaim the taxes they have paid throughout their lives. Of course, these taxpayers would not be interested in paying SECA tax.
Another criticism of SECA tax is that because of the Social Security wage base limit, SECA tax is a regressive tax with a higher effective rate for those earning less than $142,800 compared to those earning more than $142,800. The same argument applies to those on either side of the Social Security wage base limit in 2022.
Source: https://www.thebalancemoney.com/self-employed-contributions-act-seca-tax-5198333
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