The good news is that with some basic planning and organization, you can stay on top of your tax responsibilities and avoid unpleasant surprises. Here are some key tax tips to help sole proprietors stay organized and prepared throughout the year.
1. Understand Self-Employment Tax
When you work for an employer, Social Security and Medicare taxes are taken out of your paycheck, and your employer pays a portion of the total amount owed. As a sole proprietor, you’re the employer and the employee, so you have to pay the entire amount yourself. This is called self-employment tax. It’s important to point out that you’re not paying “double tax”, but rather you’re responsible for the full amount of Social Security and Medicare taxes that are normally split between the worker and employer.
2. Pay Taxes Throughout the Year with Estimated Payments
Since taxes aren’t taken out of your business income automatically, like they are for traditional employees, the IRS expects most sole proprietors to pay taxes as they earn income, not all at once in April. This is done through quarterly estimated tax payments.
Estimated payments usually include:
- Income tax
- Self-employment tax
These payments are typically due four times a year (April, June, September, and January). Making these payments on time can help you avoid penalties and reduce the chance of a large tax bill when you file your return. Many business owners use calendar reminders or budgeting tools to stay on track.
3. Understand Common Tax Deductions for Sole Proprietors
Tax deductions lower your taxable income, which can help reduce how much tax you owe. As a sole proprietor, you can generally deduct many common business expenses, as long as they are necessary for your work. These can include:
- Home Office Deduction: If you use part of your home for business, you may qualify for a home office deduction. This usually means a specific room or area that you use regularly and only for work. There are two common ways to calculate the deduction. One is the simplified method, where you deduct $5 per square foot of office space (up to 300 square feet). The other is the regular method, where you deduct a percentage of certain home costs (such as utilities, insurance, and mortgage interest or rent) based on how much of your home is used for business.
- Mileage and Vehicle Costs: If you drive for business purposes, you may be able to deduct business mileage or certain vehicle costs. A mileage log or tracking app can help you separate your business and personal driving.
- Equipment, Supplies, and Other Business Expenses: Items like computers, software, office furniture, and business supplies are often tax deductible. Sole proprietors may also deduct expenses such as advertising and website costs, business insurance, professional services (like legal or accounting help), and certain business meals. Qualifying expenses are typically reported on Schedule C when you file your taxes.
Because deduction rules can be detailed, it’s important to keep good records and review which deductions apply to your specific situation.
4. Know When It Makes Sense to Get Professional Help
Many sole proprietors start out handling their own bookkeeping and taxes, but there are times when getting help can be a smart move.
You may want to consider working with a bookkeeper, accountant, or tax preparer if:
- Your income has grown significantly
- You have many expenses or deductions
- You work from home and claim a home office
- You’re unsure how to handle estimated payments
- You want help planning ahead to reduce your tax burden
A professional can help you stay compliant, avoid costly mistakes, and save time so you can focus on running your business.
5. Keep Good Records All Year Long
Strong recordkeeping makes tax time much easier. Be sure to keep track of:
- Receipts and invoices
- Income records
- Bank statements
- Mileage logs
- Contracts and business documents
Some business owners prefer spreadsheets or bookkeeping software, while others prefer digital folders. The most important thing is to stay consistent and update your records regularly instead of waiting until tax season.
6. Separate Business and Personal Finances
Mixing business and personal finances can make taxes confusing and time-consuming. Using a dedicated business checking account helps you clearly track your business income and expenses, and simplifies bookkeeping.
Stay Prepared All Year Long
Being a sole proprietor comes with added tax responsibilities, but good habits can make a big difference. Planning ahead, keeping organized records, and knowing when to seek professional help can reduce stress and help your business run more smoothly.
Having the right financial tools can also support your success. BankFive offers business checking accounts and tools designed to help Massachusetts and Rhode Island business owners stay organized and manage their finances with confidence.