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Entity Selection
If you are thinking about starting a business, one of your first decisions you must make is to determine your type of entity. Each option has their unique set of advantages and disadvantages.
We cover the three most common types of entities that we deal with:
- Sole Proprietorship
- Limited Liability Compan
- S Corporation
Sole Proprietorship
Limited Liability Company
Limited Liability Company
The simplest option with little to no filing requirements or costs to get started, other than your annual tax return filing on Schedule C.
Limited Liability Company
Limited Liability Company
Limited Liability Company
This option is more formal, offers limited liability and greater credibility for your small business, but with additional costs and filings.
S Corporation
Limited Liability Company
S Corporation
This option is definitely the most complex with payroll and tax filing requirements, but this entity may offer the greatest tax savings.
Sole Proprietorship
A Sole Proprietorship Is the Simplest Option
A sole proprietorship is the simplest option in that you do not necessarily have to legally form a sole proprietorship. If you go out and perform work to earn income as a self-employed individual, you are technically a sole proprietor.
A sole proprietorship has no special income tax filings as all of your income and expense are filed on your personal tax return on Schedule C. You will use this Self-Employment Organizer to send us your income and expense for the year.
Main Advantages of a Sole Proprietorship
- Simplicity: Simplicity is the name of the game with a Sole Proprietorship. If you earn income as a self-employed individual, you're a sole proprietor. If you receive any forms 1099-NEC, 1099-K, you likely have self-employment income and may be classified as a sole proprietor if you have no legal formation for your small business.
Potential Disadvantages
- Unlimited Liability: You are personally responsible for all financial and legal claims that may arise from your sole proprietorship, even if you have employees performing work for your business.
- Less Credibility with Customers: Put yourself in the eyes of a potential customer. An LLC or incorporated entity provides a greater degree of credibility and continuity versus no formal legal entity.
Tax Tip!
If you are operating as a sole proprietor, you should get a free Employer Identification Number (EIN) from the IRS. You can give use your EIN instead of your SSN with customers, if they request that you complete a W-9. This will help you protect your SSN and potentially protect your identity.
Limited Liability Company (LLC)
An LLC Offers Simplicity and Credibility
An LLC offers a number of benefits for business owners, with the main benefits being the simplicity in startup, operation, and management, as well as the liability protections of personal assets for the owner.
The good news is, a single-member LLC has no special income tax filings except for the Annual Form 1 and Personal Property Return noted below. All of your income and expenses are filed on your personal tax return, Form 1040, on Schedule C.
You will use this Self-Employment Organizer to send us your income and expenses for the year, unless you have a Profit Loss statement that you can send to us.
Advantages of an LLC
- Limited Liability: An LLC may help limit your personal liability associated with your business activities.
- Simplicity: LLCs are simple to start and maintain as filing fees and tax filings are straightforward and generally low cost. As a single-member LLC owner, you will file your income and expense on Schedule C, which is part of your annual Form 1040 tax filing.
- Retirement Options: This is more of a self-employment benefit vs just an LLC, but you have a variety of retirement savings options if you own an LLC. This includes a Solo 401k, Simple IRA, SEP IRA, and more.
- Professional Appearance: Using an LLC adds a degree of credibility to your business, which will undoubtedly help with your marketing efforts. A business appropriate name with an "LLC" is a great way to attract customers.
- Simplicity in Income Reporting: You report your income and expenses on your Schedule C. Whatever income your earn for the year is taxable income and there are no other forms to file or worry about.
- Tax Flexibility: An LLC can elect to be taxed as a sole proprietorship or as an S Corporation. Electing S Corporation taxation offers some additional tax flexibility and potential savings, but greatly increases the complexity of your filings and record keeping requirements. This is a more advanced topic and more suitable to established businesses. See our section below on S Corporations for more details.
LLCs with Two or More Members
An LLC with two or members (partners) is considered a Partnership for tax purposes and will for a Form 1065 and any applicable state tax returns.
Items to keep in mind with a Partnership:
- Due Date: The Form 1065 (or extension) is due March 15th, not April 15th like Individual tax returns
- Form K-1: Each Partner will receive a Form K-1, which reports the partners' share of profits from the Partnership. Partnerships are pass-through for tax purposes so all profit and loss is reported on each partner's tax return, therefore, each partner must wait for a finalized Partnership return and their Form K-1, before they can file their personal tax return.
Annual Filings/Fees: In Maryland, whether a single-member LLC or Partnership, you will have the following filing requirements to keep your LLC active and in good standing. You can complete these filings online through the Maryland Business Express.
Interested in more information regarding an LLC?
Or do you already have a single-member LLC and are interested in tax preparation?
Contact us to discuss any additional questions you may have.
Frequently Asked Questions
Please reach us at travis@mdtaxservice.com if you cannot find an answer to your question.
In short - no, an LLC will not directly save you any money with your tax filings.
An LLC is "pass-through" for tax purposes, so all income and expense are reported on your personal tax return on Schedule C. You will essentially have the same tax liability if you start and operate an LLC vs just operated a simple sole-proprietorship (no LLC or formation requirements).
In Maryland, you can setup an LLC through the Maryland Business Express for about $100 with additional fees depending on how soon you need your LLC to be established.
You can also use any of the online formation services like LegalZoom.com to setup your LLC, but of course the filing fees will depend on the service provider and level of services you choose.
Maryland Tax Service, Inc. does not currently provide LLC setup services.
Yes, Maryland requires all LLCs to file the Annual Form 1 and Personal Property Return.
The Annual Form 1 has a $300 filing fee and is required to keep your LLC in active, good standing with the state of MD.
The Personal Property Return is also an annual filing requirement. This form reports all personal property that your business uses for a small additional tax assessment.
You can file both forms electronically through the MD Business Express for no charge ($300 filing fee still applies) or we can prepare these forms for you to mail in with your payment starting at $75.
Bookkeeping is critical to running any small business. See your Self-Employment Guide for more details on bookkeeping needs, tips, etc.
S Corporation
An S Corporation May Offer the Best Tax Savings
An S Corporation has similar startup and formation costs as an LLC, but that is really where most of the similarities end. While LLCs and S Corporations are both pass-through for tax purposes and provide limited liability protections, an S Corporation treats you, the owner, as an employee.
As an S Corporation owner/employee, you will file separate Form 1120S and state tax filings, due on March 15th. Additionally, you must pay yourself a reasonable salary via W-2. The benefit here is that any profits above your reasonable salary can be paid out to you as a distribution, which would not be subject to payroll taxes. Additionally, you can provide tax free reimbursement for any expenses you incur, like auto mileage, home office expenses, etc. under an Accountable Plan.
You will need to provide us with an income statement and balance sheet so we can prepare your tax return. Often times, clients will use QuickBooks or another bookkeeping software to help manage their income and expense and generate the necessary financial statements.
Advantages of an S Corporation
- Limited Liability: An S Corporation may help limit your personal liability associated with your business activities.
- Retirement Options: This is more of a self-employment benefit vs just an S Corporation, but you have a variety of retirement savings options. This includes a Solo 401k, Simple IRA, SEP IRA, and more.
- Professional Appearance: Using an S Corporation adds a degree of credibility to your business, which will undoubtedly help with your marketing efforts. A business appropriate name with an "Inc" is a great way to attract customers.
- Profit Distributions: An S Corporation allows you to pay yourself profit distributions from net income, which are not subject to Social Security and Medicare taxes (about 15%). So all things equal in terms of net income, an LLC owner may pay about 15% more in taxes than an S Corporation owner.
- Accountable Plan: An S Corporation can adopt an Accountable Plan to provide tax free reimbursements of expenses to employees. See our Accountable Plan page for more details.
Disadvantages of an S Corporation
- Complexity - Reasonable Salary: You must pay yourself a reasonable salary via W-2. What is a reasonable salary? The IRS does not define what a reasonable salary is. Our advice is this: if you had to pay someone to replace you in your position, what would you pay them? Whatever you think is a reasonable salary is probably the amount you should pay yourself.
- Complexity/Cost - Payroll: You are considered an employee of your S Corporation, therefore, you must pay yourself as a W-2 employee. Running payroll comes with added costs, forms, filings, and if done incorrectly, will almost certainly result in penalties and interest. We recommend you use a payroll provider like QuickBooks, ADP, or Paychex to run your payroll.
- Complexity - Deduction Limitations: As an employee of your S Corporation, you are not allowed to deduct your expenses on your personal tax return. Common examples might include mileage, home office use, etc. An LLC owner or sole-proprietor deducts all expenses on their tax return, but running an S Corporation isn't quite that simple. Your only means to claim these deductions is to reimburse yourself through a properly established Accountable Plan.
- Complexity/Cost - Accounting Requirements: As an S Corporation owner, you are required to maintain a balance sheet. A balance sheet is a listing of your assets, liabilities, and equity. The most common way to do this is with an accounting application like QuickBooks.
- Complexity/Cost - Tax Returns: S Corporations are required to file a Form 1120S and accompanying state income tax returns annually.
Items to keep in mind with an S Corporation:
- Due Date: The Form 1120S (or extension) is due March 15th, not April 15th like Individual tax returns
- Form K-1: Each Shareholder will receive a Form K-1, which reports the shareholder's share of profits from the business. S Corporations are pass-through for tax purposes so all profit and loss is reported on each shareholder's tax return, therefore, each shareholder must wait for a finalized S Corporation return and their Form K-1, before they can file their personal tax return.
Annual Filings/Fees: In Maryland, you will have the following filing requirements to keep your S Corporation active and in good standing. You can complete these filings online through the Maryland Business Express.
Interested in more information regarding an S Corporation?
Or do you already have a S Corporation and are interested in tax preparation?
Contact us to discuss any additional questions you may have.
Self-Employment: Income and Taxes
Self-Employment Income and Taxes
If you earn income in a small business (either full or part-time) that is not reported on a W-2 and/or you receive one or more Forms 1099-NEC for work you perform, you are technically self-employed, and this guide is for you.
Frequently Asked Questions Below
We've structured our guide with our most frequently asked questions regarding taxes, tips, tax deductions and limits. If you have any questions that are not covered below, please let us know!
We use our Self-Employment Organizer to collect your income and expense totals. When we prepare your return, we only need your totals by the categories shown on this organizer. We do not need to see or review your receipts, they are for you to hold on to just in case the IRS decided to audit your tax return. Of course, if you have any questions on the deductibility of an expense, please let us know.
If you have any questions as you review our guide, please let us know.
General FAQS
Please Contact Us if you have a question not covered here.
The best way to track your income and expense is the way that suits you best and will provide accurate totals for your tax return preparation. Below is the process we recommend to all clients as this offers an inexpensive, simple, and repeatable process.
- Separate Bank Account(s): Open a separate bank account for your business activities and if you use a credit card, use only one card for business transactions or consider opening a credit card just for business activities. This will keep your business and personal transactions separate so you can easily review your business transactions and account for income and expenses. If you have an LLC or S Corp, this is especially important to preserve your limited liability protections.
- Download and Classify Your Transactions: Once you have your separate business accounts, you can download your transactions as an Excel or CSV file and easily classify your business transactions by your preferred categories for your tax return preparation. When you are reviewing, all deposits are (likely) income and deductions are (likely) expenses. You'll of course need to review, but this gives you the total list of transactions to review and classify.
- Smart Phone - Calendar: Use your smart phone and a calendar app to track your business activities. Use the calendar app for your business appointments, mileage, meals, etc. At the end of the month, quarter, or year (whatever frequency you choose), you can go back and review your calendar to see what your activity has been and determine your deductible expenses and mileage.
- Smart Phone - Camera: Whenever you have a paper receipt, take a picture and immediately email it to yourself and save it in your email or online storage service (Dropbox, Google Drive, etc.), based on the tax year. If you save a digital copy of your receipt, you do not need to keep the paper copy as well.
- Business Email Address: You'll probably already use an email address for your business, so this is an easy tool to help keep you organized. You can create a folder per tax year and save your online purchase receipts, and as noted above, the emailed pictures of receipts for offline purchases.
Want help with your bookkeeping? Contact Us and we can make a recommendation for a bookkeeping service provider to help get or keep your organized.
We'll be honest here, taxes for the self-employed can be daunting. You have the following taxes to account for:
- Payroll Taxes: Payroll taxes are Social Security and Medicare. You will pay 12.4% for Social Security and 2.9% for Medicare, so about 15% in payroll taxes, which is on your net self-employment income (gross income less expenses).
- Federal Income Tax: This is the tax imposed on your total income for the year. Your federal income tax will depend on your marital status, as well as other income for the year, for example, your spouse's income, capital gains, dividends, etc. Most clients land in the range of 10%-30% or so for their federal income taxes.
- State and Local Income Tax: Most states impose an income tax on your total income. Maryland has both a state income tax and a local income tax wrapped up in the annual tax return. The income tax rates start at about 2% and top out at 5.75%. The Local tax is based on your county of residence. Most of the counties levy anywhere from 2.25% to 3.2%. Montgomery County charges 3.2%. Your estimated tax payments should account for both of these taxes per payment, so you will not make separate payments.
- Do you have employees? If you have employees, you will pay half of their payroll taxes. You will want to use a payroll processor like ADP or Paychex, to prevent costly errors in the payroll tax filings.
When you are self-employed, you must pay your income and payroll taxes on your own via quarterly estimated tax payments. If you don't make timely payments of at least 90% of your current year's tax liability or 100% (110% for MD) of last year's liability, you face the prospect of underpayment interest and penalties from the IRS and/or state.
Use these links below to make your estimated tax payments online or contact us to receive paper vouchers to mail in your estimated tax payments. Please note, you make have to register for an account if you have no done so previously.
Payments are due by the following dates
- 4/15
- 6/30
- 9/15
- 1/15 of the following year
Contact Us to help calculate your estimated tax payments to make per quarter.
The answer depends on your business complexity and if you have employees or not. The majority of self-employed individuals do not need QuickBooks or another software for their bookkeeping.
- What does QuickBooks do?: QuickBooks syncs with your business bank and credit card accounts and pulls in your transactions via the bank feed. Then you classify the transactions into the appropriate account. All of your transactions are totaled by category and you are left with a nice, neat Profit and Loss statement. This is 100% dependent on you knowing how to properly use QuickBooks. There is an entire cottage industry devoted to unwinding and cleaning up messy QuickBooks accounts, so there is plenty of room for error here. We only recommend QuickBooks for businesses that need an accounting software.
- If you run payroll, you may want QuickBooks: if you have payroll for yourself or employees, you will want to use QuickBooks or some other payroll service provider. The potential for errors, penalties, and interest are too high to pass on this sort of service.
- QuickBooks may not be necessary: If you are self-employed without complex projects, employees, a large number of contractors, or other complexities, QuickBooks is probably overkill for you. You can probably achieve the same or a better level of efficiency using Square and/or a payroll service like ADP or Paychex. Want to discuss your options? Contact Us and we can make a recommendation based on your business' needs that will help you save you time and money.
- Already have QuickBooks? You can share your QuickBooks with us: This is a nice feature - you can share your bookkeeping with us or any other accounting professional if the need arises. Come tax time, this can greatly simplify your tax preparation.
- Need help with your QuickBooks? Maryland Tax Service, Inc does not offer bookkeeping services at this time but we can refer you to an appropriate service provider.
As a self-employed person, you have some great retirement options that not only help you save for retirement, but will also help lower your tax bill for the year. We have the most common options below.
Please note: the contribution limits are based on your net income, so please contact us with any questions.
- Solo 401k: This option lets you put away up to the annual maximum amount into a Solo 401k account. The annual maximums are $20,500 for 2022 and $22,500 for 2023. There is also an employer side match, based on net income, which can bring your total contribution to $61,000 for 2022 and $66,000 for 2023.
- Simplified Employee Pension (SEP) IRA: This option is based on your self-employment net income, up to 25% of your net income or a maximum of $61,000 for 2022 and $66,000 for 2023.
- Catch up Contributions: If you are over 50 years old, you can make an additional catch up contribution of $6,500 in 2022 and $7,500 in 2023.
You can setup a free retirement account with custodians such as Fidelity or Vanguard, or we can recommend a financial advisor if you are interested in professional guidance with your retirement/investments.
Deduction Specific FAQS
Please Contact Us if you cannot find an answer to your question.
According to the IRS:
To be deductible, a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your industry. A necessary expense is one that is helpful and appropriate for your trade or business.
Our position is this: If you have an expense that you would expect to see in a competitor's business, it's likely deductible. See our list of Deduction Exceptions below that are not deductible since the IRS limits some deductions.
You can see the typical expense categories on Schedule C on our Self-Employment Organizer. You will use this organizer to send us your totals for your business.
Deduction Exceptions
- Charitable donations: not deductible by your business but may be deductible on your Schedule A if you itemize your deductions
- Gifts to Clients: you are limited to $25 per gift per client
- Meals and entertainment - see "Are business meals and entertainment deductible?" FAQ
Business meals are 50% deductible, which has been the longtime standard.
Entertainment (like sports tickets, concerts, etc) is not deductible. If you have a mixed event with both meals and entertainment, you must itemize the expenses and exclude the entertainment portion from your deduction.
Business Meals -- 50% Deductible
- Business meals with new or existing clients
- Office snacks for employees, while working
- Meals while traveling for business
- Meals while attending conferences or meetings to discuss business
Business Meals -- 100% Deductible
- Meals for employees for the convenience of the employer (e.g., working late)
- Food provided to the public for goodwill (e.g., coffee, snacks)
- Meals during company wide recreational events or team-building events
As a self-employed person, you can use actual meals expenses or the per diem rate when traveling. Generally, you can only use per diem for meals where your travel takes you 50+ miles from your home and/or away from home for 12+ hours.
Like all other business expenses, you should document the per diem meal expense as part of your business travel, which should include the business purpose, destination, dates, and any other travel related expenses like mileage, airfare, lodging.
If you drive your vehicle for your self-employment, you are entitled to a deduction. You choose one of the options below.
Mileage Log: Please note, both options require that you maintain a written log of your business vs personal miles. An easy way to do this is record your mileage at the start of the year, record all business mileage as you go, and then record your year-end mileage. The difference between these three amounts will provide you with your business vs personal mileage.
- Mileage Option: your deduction is based on the number of miles you drive and the IRS mileage rate. This is by far the simpler method of the two.
- Actual Expenses: your deduction is based on actual expenses, so you must track your total vehicle expenses for the year: fuel, oil changes, all maintenance, insurance, wash and wax, tires, interest if you have a car loan, and any other expenses you actually pay. From there, you provide us with your mileage totals and we do the rest. We will also factor in a depreciation deduction for your vehicle, as applicable. Once you elect this method, you cannot switch to the Mileage option. When you sell or trade in your vehicle, you will have a taxable gain on the sale of the vehicle. This is certainly the more complex option, but it may offer a larger deduction.
We use the mileage rate for most clients. Unless you use a heavy truck or van in your business, the Mileage option is simpler and does not have the complexities of a taxable gain at the sale or trade-in of your vehicle.
If you use part of your home regularly and exclusively for business, you may be able to claim the home office deduction.
Please note: this only applies to self-employment income. If you are a W-2 employee and do not have self-employment income, this does not apply to you.
The requirements to qualify for the home office are:
- Regular and Exclusive Use: You must regularly use part of your home exclusively for conducting business. For example, if you use an extra room to run your business, you can take a home office deduction for that extra room.
- Principal Place of Business: You must show that you use your home as your principal place of business. If you conduct business at a location outside of your home, but also use your home substantially and regularly to conduct business, you may qualify for a home office deduction.
There are two options for the home office deduction
- Simplified Method: $5 a square foot for the space you use for business, up to 300 square feet.
- Regular Method: You essentially total of your home expenses and prorate your deduction based on business vs personal square footage and take a depreciation deduction.
The IRS defines travel as: "Travel expenses are the ordinary and necessary expenses of traveling away from home for your business." This includes the costs to get to an from your destination, lodging, meals, and any other business related expenses.
When you travel for business, you must ask yourself, what is the primary purpose of the trip?
- Primarily business: You can deduct all of your travel expenses if your trip was primarily business related. If your trip was primarily for business and, while at your business destination, you extended your stay for a vacation, made a personal side trip, or had other personal activities, you can deduct only your business-related travel expenses. These expenses include the travel costs of getting to and from your business destination and any business-related expenses at your business destination (e.g., seminars, lodging, business meals, etc).
- Primarily personal: If your trip was primarily for personal reasons, such as a vacation, the entire cost of the trip is a nondeductible personal expense. However, you can deduct any expenses you have while at your destination that are directly related to your business.
- Other travelers: If your partner, spouse, and/or children travel with you, their travel costs are not deductible
Clothing deductions will be quite limited unless the following deductible exceptions apply:
- Clothing with your brand or logo
- Specialized clothing that you wear exclusively for your business, but would not wear outside of your business activities. Common examples might include items such as scrubs for medical professionals, theatrical costumes, specialized safety clothing, etc.
- Cleaning expenses for specialized clothing is deductible, but typical dry cleaning and other cleaning costs for other ordinary clothing would not be considered a deductible expense.
Common questions about clothing often include items of professional business attire, such as dress shirts or suits. Since these clothing items are not specifically branded and can be worn outside of business, these items are not deductible.
Small Business Bookkeeping
Bookkeeping is a critical, yet often overlooked aspect of running a business. We can assist in all phases of your business: startup consulting, bookkeeping cleanup, and more.
We help you get organized, stay organized, and let you focus on what you do best - growing you business!
Small Business Services
Startup Consulting
Tax Planning & Preparation
Startup Consulting
At Maryland Tax Service, we help simplify the startup process and guide clients on how entity selection and tax planning can help save time and money. We help our clients achieve their business goals while minimizing their tax liability. Initial consultations are no charge. Call Today!
Bookkeeping
Tax Planning & Preparation
Startup Consulting
Reliable and accurate bookkeeping provides necessary insights to manage your business, as well as prepare your tax returns. We have excellent bookkeeping partners that will help you get and stay organized, so you can do what you do best -- grow your business.
Tax Planning & Preparation
Tax Planning & Preparation
Tax Planning & Preparation
We take a personalized approach to business tax planning and tax preparation, as no two businesses are exactly the same. We work closely with our clients to understand their business and their goals, and help develop tax saving strategies to meet those goals.