When you work for yourself, it’s easy to focus on the daily hustle — and put off dealing with what you owe the government until tax time.
What most solo business operators don’t realize: the U.S. tax system is actually stacked against them. The IRS gives some advantages to corporations and W-2 employees that solopreneurs don’t get. If you’re self-employed, you’re set up to pay more taxes by default. In fact, the typical freelancer making over $200,000 overpays by a staggering $15,000 each year!
But there’s something you can do about it. We’ll walk you through some of the common reasons self-employed workers overpay their federal taxes and how you can take advantage of the system, so it doesn’t take advantage of you.
Am I paying too much in taxes?
Why do I pay so much in taxes?
Lettuce gets these questions all the time. And the answer to both is simple. If you’re a solopreneur, the U.S. government has created a system that’s more favorable to corporations than it is to you. The result: you’ll wind up overpaying on your taxes unless you take active steps to use the system to protect your hard-earned money.
Here’s the breakdown. In America, everyone who works pays Social Security and Medicare taxes, which add up to 15.3% of annual earnings. If you’re a W2 employee, tax law requires your employer to pay half of those taxes. That’s part of the federal withholding that comes out of your paycheck when you fill out a W-4 form.
When you’re self-employed, the federal government requires you to pay both the employee and the employer share of your Medicare and Social Security taxes. This is commonly referred to as Self Employment Tax. That means freelancers, independent contractors and solo business owners are on the hook to pay double what W-2 employees pay on those taxes. That can translate to thousands of dollars, if not more, depending on your income.
In addition to the built-in disadvantages of the American tax system for solo business owners, many self-employed people overpay on their taxes for other reasons. Here are some common ones:
The main reason freelancers and solopreneurs overpay their taxes is simply because they don’t have an adequate understanding of current tax laws, both on the federal and state level, which can be confusing and complex. Many of the established tax rules designed to help solo businesses aren’t widely known, and were previously too complex and tedious to maintain.
Most self-employed people are required to pay estimated income taxes every quarter. If they don’t, the IRS can force them to pay a penalty. Because of rising interest rates, the IRS raised its penalty for individuals to 8% per year as of late 2023, up from 5% in 2021.
Filing errors can lead to unintended consequences, with an impact not just on your tax payments but in potential missed tax credits and liabilities, amended returns, costly adjustments, and accuracy-related penalties. Errors and inaccuracies can also trigger dreaded tax audits or result in legal issues.
When you use outdated tax preparation methods that rely on paperwork and manual calculations, you increase your risk of filing errors. As the tax system increases in complexity, the tools we use to keep an edge must increase in capabilities. Without the latest tools and knowledge, you’re also far more likely to miss out on new deductions and credits — and potentially run afoul of constantly changing tax laws.
If you’re self-employed and receive a tax refund after filing, it’s because you overestimated your income or miscalculated your estimated taxes. Instead of putting that money to work for your business in the form of investments or cash flow, you’ve effectively given the government an interest-free loan. Overpayment may seem harmless, but it can also lead to:
Taking advantage of deductions can significantly reduce your taxes. But there are many common deductions that solo business owners often miss, including:
When you’re a solopreneur, you answer to no one but yourself (give or take the occasional high-maintenance client). But as the master of your own enterprise, you also take on all the responsibility and risk that comes with being your own employer.
Just ask Lisa Dini, a former marketing consultant who now leads community and public relations for Lettuce. “After two years of consulting, my accounting function consisted of an invoice tracker, a receipt folder in my email, and prayers that I put enough away in savings to cover the tax bill,” she says. Then she got proactive in how she dealt with the IRS.
Here a few important ways to do so:
Staying up-to-date on tax laws and regulations is key. As a solo business owner, the more you understand about the evolving tax rules that directly affect you, the greater your chances are of avoiding tax overpayment and getting the most tax savings possible.
Though it’s often an afterthought for freelancers, maintaining accurate financial records can have a big impact on your business. Separate your company’s finances from your personal ones, and use a dedicated business bank account and credit card for all work-related transactions. Keep digital copies of your receipts and invoices, and maintain organized records of every financial transaction.
Tax software and AI bookkeeping software can help make sure you don't overpay your taxes. These tools can perform complex math accurately and frequently, check your filings for errors, calculate and pay estimated quarterly taxes proactively, and prevent underpayment penalties. The tools can also help you identify all the eligible deductions and credits you may qualify for.
As Dini puts it: “Having one solution that automates all my bookkeeping and accounting gives me a new sense of confidence and saves me so much time.”
When in doubt, consult a tax professional or an AI-based tax professional service. Depending on your situation, there may be nuances in the law regarding everything from self-employment taxes to tax credits that require more expertise.
Traditional or AI tax and accounting services can come at a steep cost, but advances in technology have opened up an affordable middle ground.
By default, the U.S. tax system treats a solopreneur as both employer and employee, requiring you to pay more taxes. But there’s a way to make the system work to your advantage: become an S-corporation.
S-Corps are designed for businesses of one, and they’re perhaps the best-kept secret of tax accounting for savvy solopreneurs. When you designate your solo business as an S-Corp, you're able to split your income into two parts: "salary" and "owner's distribution." You only pay payroll taxes on the salary portion, not on the profit you take home as an owner.
In addition to lowering your taxable income and federal income tax liabilities, setting yourself up as an S-Corp allows you to benefit from the tax advantages typically reserved for larger businesses. As an S-Corp, profits and losses pass through to your personal tax return, reducing the self-employment tax your solo business pays. You gain access to corporate-level benefits, with more options for healthcare and retirement savings, along with increased eligibility for tax deductions and credits. Establishing yourself as an S-Corp can also boost your business's credibility with clients, customers, and suppliers.
“I've never had real tax strategies or a total view of how things were going,” says Sam Faillace, a consultant and Lettuce client. “Since I created my S-Corp, the …work I've been doing is suddenly a real business. I feel empowered.”
Historically, the bureaucratic requirements of setting up and managing an S-Corp have been a major barrier. Most freelancers are too busy working to deal with a massive amount of paperwork. Some financial advisors may have even told them that establishing an S-Corp was too much of a hassle. Thankfully, innovative companies looking to help solopreneurs have broken down these barriers.
Powered by technology, automation, machine learning and AI, Lettuce is a comprehensive tax and accounting solution that finally makes S-Corps a realistic choice for solopreneurs. You can make more money without doing more work and take advantage of the opportunities the tax system provides. This is a real case of specialized AI technology that actually works and saves you money.
Lettuce was built from the ground up for solopreneurs by solopreneurs. The goal: to give people like you — the millions of self-employed business owners whom the tax system disadvantages — more access to specialized tax advice and automated bookkeeping and accounting technology. You no longer have to settle for the average refund.
Through the power of proprietary machine-learning technology, Lettuce offers an accessible, efficient solution that makes the tax system work for you. So far, Lettuce has saved thousands of customers an average of $15,000 per year.
“As a solopreneur, I can’t tell you what a relief it is to know Lettuce is on it,” says self-employed fractional CTO Brenden Grace, who was on the hunt for a simple technology solution that could handle his business setup, accounting and banking. “No more overpaying quarterly taxes. No more penalties. Just peace of mind knowing Lettuce is on the job.”
Have questions about your self-employment income, taxes, bookkeeping, or accounting? Check out our website, or chat with LettuceHead AI for clear, comprehensive answers, 24/7. You’ve got nothing to lose, and only time and money to gain.