Q: Tax Playa, do I have to pay self-employment tax on rental income?
David, Manassass VA
A: No. Self-employment tax (Social Security and Medicare tax) is assessed only on unincorporated business income. What makes it particularly-painful is that the payer is both the "employer" and the "employee"--and hence must pay the full 15.3% rate...
The self-employment tax (SECA) is the self-employed equivalent of the payroll taxes that employees and employers pay (FICA). It is in addition to any income tax owed on the profits. Thus, marginal tax rates on unincorporated business income can be quite high for even moderate-earning businesses.
You are liable to pay self-employment tax if you have net income from an unincorporated trade or business. This income can be in the form of a sole proprietorship or a business partnership. Independent contractors and LLC members generally fall into these categories.
The 15.3% rate is actually two taxes: the 12.4% Social Security tax, and the 2.9% Medicare tax.
Only the first $102,000 (in 2008) of earned income (wages and unincorporated business income) is subject to Social Security tax (FICA and/or SECA). Conversely, every dollar of earned income is liable for the Medicare tax.
Those who pay the self-employment tax can take an income tax deduction for half the self-employment tax paid. This is fair, since an employer can take a business deduction for his half of FICA tax paid.
Self-employment tax is never owed on interest, dividends, capital gains, rental income, royalties, S-corporation profits, limited partnership income, IRA distributions, pension distributions, Social Security, or any excluded income.
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