Why You Have to Pay More Social Security Tax if You Run Your Own Business

Social Security benefits are important earned benefits. As you work, money is withheld from your paycheck and paid into the retirement benefit system. You can then qualify for benefits based on average earnings over your career.

While pretty much everyone who works must pay into Social Security, people who own their own small businesses or who are otherwise self-employed will have to pay more of their own money into the Social Security program than other people do. Here's why.

There's a simple reason self-employed business owners pay more

When you work for a traditional company, your employer withholds Social Security and Medicare taxes from your paycheck.

You pay a 6.2% tax for Social Security and 1.45% for Medicare out of your earnings. That's a combined 7.65% tax for the two programs collectively. Your employer matches these payments, also paying a tax of 7.65% on your wages. Social Security taxes are collected up to something called a "wage base limit," and Medicare taxes are collected on all that you earn, with high earners facing an additional Medicare surcharge.

If you don't have an employer to pay half of your total Social Security and Medicare taxes, you become responsible for paying the entire amount. While a typical worker only personally pays 7.65%, a self-employed worker or business owner would pay 15.3% in Social Security and Medicare taxes combined.

You get to deduct half of this amount from your taxable income when you file your taxes each year. But, while this helps defray the added cost, it doesn't make it disappear entirely. You are still paying quite a bit more to the government because you are your own employer and don't have anyone else to subsidize Social Security for you.

Understand all of your added costs as a business owner

Extra Social Security tax is just the start of the added cost -- and complexity -- that goes along with running your own business. Not only do you need to pay more in Social Security taxes but, depending on how much you make, you may also be responsible for sending estimated tax payments to the IRS quarterly throughout the year.

Plus, you also won't have an employer match in a workplace 401(k) plan, so you'll need to work a little harder at saving for retirement as well as finding a retirement plan that works for you. And you'll need to decide what to do about health insurance when an employer doesn't provide it as a workplace benefit.

You should take these added costs into account when making a business plan and determining how much money your company needs to make for you to be profitable and support yourself. You should make sure you've researched issues related to taxes, workplace benefits, and retirement plans for self-employed workers so you can be prepared for the fact you no longer have a company handling these matters on your behalf.