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Self-Employed Finances

 

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While most physicians are paid as W-2 employees these days, some of you may be independent contractors (more common in certain fields like emergency medicine or those that do locums), and some of you may have additional income streams/side gigs where you have sources of non-W-2 income such as 1099 income, sole proprietor income, or K-1 income.

 

As you know, on Physician Side Gigs, we’re big fans of diversifying income streams and often talk about some of the benefits of having non-W-2 income. On this page we’ll discuss the basics of self-employed finances and some related pearls to commonly asked questions on the group.

Payroll

Resources

 

Small Business Credit Cards

 

Our partner CardRatings ranks credit cards, including small business ones, to help you navigate the different options and select the one that works best for your business.​

Payroll

 

Gusto - highly reviewed by many of our members, and includes options for benefits.  Check them out using our affiliate link.

Quickbooks - We've partnered to offer PSG members an exclusive 30% off discount using our affiliate link for QuickBooks Payroll products for their first 6 months. (See their website for full discount details and any exclusions.)

Accounting

 

Quickbooks - We've partnered to offer PSG members an exclusive 30% off discount using our affiliate link for QuickBooks Online services for their first 6 months. (See their website for full discount details and any exclusions.)

Vs Wages

Self-Employed Income Versus Wages

1099 Independent Contractor versus W-2 Employee

 

The biggest difference is that as a W-2 employee, you are directly employed by a company as their employee. You have a regular income and they pay employment taxes and whatever benefits you qualify for. They are also responsible for paying payroll taxes, including federal, state, local, and employment taxes.

 

As a W-2 employee, a company has significant control over how you do work, including the hours you work and where you have to be, how much time off you get, etc. If you are employed as a W-2 employee, you fill out a W-4 form for your employer so that your employer can withhold the correct federal income tax from your pay.  Your paychecks have payroll taxes (federal income tax, social security tax, and Medicare) already taken out, and you get a W-2 form from your employer to file every year with your taxes.

 

As a self-employed and/or 1099 independent contractor, you are your own employer, so you are considered a business owner yourself. You will contract with whoever you would like to on whatever terms you’d like, and you are not limited to working with one employer. Many side gigs fall into this category, such as consulting gigs, expert witness work, and medical surveys.

 

You will negotiate the terms of your compensation and are paid accordingly. However, unlike the W-2 income, the relevant taxes will not be taken out from the paycheck, and it will be your responsibility to pay these taxes on behalf of your business. There are several tax advantaged options available to self-employed individuals not available to W-2 employees, including additional deductions and retirement plan options (see below for more details).

Which is the better option?

 

This isn’t an easy answer because it requires looking at the tax implications and numbers associated with each option. If you have an accountant, running different scenarios by them would be prudent. The take home points are: 

Self-Employed:

Advantages:
  • Flexibility in scheduling and working with multiple companies/employers

  • Tax deductions that W-2 earners don’t have, such as business expenses.

  • Access to retirement plans such as a solo 401k or SEP IRA, that have high contribution limits, pension options, the ability to pay family members and contribute to their retirement plans if appropriate, etc. Employer contributions to all of these plans will decrease your taxable income tax amount.

Disadvantages:
  • You will have higher self-employment taxes (mostly Social Security and Medicare)

  • Being self-employed means tracking your income and taxes, and you will likely need to pay estimated taxes every quarter

  • You don’t have paid time off, so you only get paid if you work

  • Extra burden of record keeping and reporting that isn’t paid time on the job

Employee:

Advantages:
  • A paycheck with taxes already calculated and withheld for you

  • Employer-provided benefits (potential paid time off, health insurance, employer match opportunities in 401ks, etc.)

  • Minimal management on your end
     

Disadvantages:
  • The employer has the ability to regulate hours and other terms of your employment, offering less flexibility

  • May require multi-year contracts and non-competes, and other restrictions that can tie you to an unfavorable workplace environment

  • Inability to contribute to retirement accounts beyond what is set up by your employer

  • Less opportunities for deductions  

Cash vs Accrual

Cash vs Accrual Basis

When reporting self-employed income, you have to elect whether you want to report your income and expenses either on a Cash or Accrual basis.

Cash basis

Cash basis accounting is the simpler of the two methods. You recognize transactions when they are either received or paid. For most side gigs, this is the basis you will want to use. It helps give you a clear, real-picture idea of what your current cash flow is. Having extra income is one of the main perks of picking up a side gig, so keeping tracking of your side gig finances on a “real time” basis gives you a better sense of how much you’re making from this side gig. Running your records on cash basis also makes the accounting and record keeping easier.

If you are running a larger business that requires more forecasting and with longer payment terms for your customers, accrual might be a better fit, as you often get a better picture of what is coming in to help you manage a much larger budget.

Accrual basis

In accrual basis accounting, you recognize transactions as soon as they happen, regardless of when you get paid for them. So if you are working a locums contract and you don’t get paid until two months after the completion of the contract, you would record the income at the time that you entered into the arrangement, regardless of when they finally paid you.

If you are running a side hustle that involves producing and carrying inventory, or if you carry long terms, accrual basis may make more sense. An accrual basis aligns income with the expenses correlating to them much better than a cash basis in these situations. In some states, returns, such as sales and use tax, must be reported on the accrual basis, so running your inventory and books on an accrual basis can make these returns easier to compile and file.

Keeping Track

Keeping Track of Expenses

 

Keeping track of your side gig finances from the start makes your life a lot easier come tax season. Because you want to take full advantage of the deductions you can take as a self-employed person, you don’t want to forget them when you’re scrambling to remember at tax time.  It also helps you know your numbers for the estimated taxes the IRS requires you to file quarterly, as well as calculate your income for self-employed retirement accounts.  

Even if you are running a regular side hustle as a sole proprietorship (more on this below), many people prefer to have a separate business savings and checking account to separate the accounting for your side gig income from your household finances. It’s even more important if you are running your operation as an LLC or corporation. You can open a separate checking account even if you’re operating under just a DBA. A debit or credit card linked to this checking account helps you easily track business expenses to your side gig, so you don’t have to scrub twelve months of credit card purchases trying to remember which Amazon purchases were related to your business and which were personal expenses.

 

In this situation, it's critical to have a separate set of business books to track your income and expenses. We've partnered with Quickbooks to offer PSG members an exclusive 30% off discount using our affiliate link for QuickBooks Online and Payroll products for their first 6 months. (See their website for full discount details and any exclusions.)

If you’re side hustling as an expert witness once or twice a year, however, it may not be worth the headache of setting up a business and separate accounts. In one-off situations like this, a simple spreadsheet can track the income that came in and any related expenses to deduct, such as your travel expenses.

Keeping track of your income and expenses as they come in or, at a minimum, once a month, will help you track your adjusted gross income (AGI) better so that you can accurately calculate your estimated taxes.

Not sure where to start? If your monthly volume of transactions is low, a simple spreadsheet is a great way to keep track. For example, to track your income and expenses, you can make a spreadsheet with two tabs, one for income and one for expenses, such as this:

 

Income


Expenses

 

On a very basic level, you can then subtract your running expenses from your income to calculate your running taxable income. 

Your taxable amount may end up being a complicated calculation if, for instance, you have an solo 40(k) set up (we cover retirement options below) and are contributing as both the employee and the employer to balance pre-tax and post-tax growth. Pre-tax contributions lower your taxable amount and would need to be taken into account when calculating your taxable amount.

The more complicated your situation becomes, the more important it is to find a reliable accountant that you trust to help make sure you are calculating and reporting your income and taxes correctly.

If you are running a small business with daily transactions, bookkeeping software is likely a better solution to help you track your income coming in and outstanding invoices you need to follow up on, as well as all the expenses that go into operating your business.

Expenses to track for your side gig

One of the perks of working as a 1099 contractor or as a self-employed individual is that the IRS lets you write off certain business-related expenses to help lower your tax burden. Keep in mind that at baseline, the tax burden is higher for self-employed individuals, as you have to cover both the employer and the employee’s portions of Social Security and Medicare taxes, along with federal income taxes, so it’s important to make sure you’re taking advantage of the tax advantages of self-employed income to work in your favor.

1099 deductions.jpg

 

The list below is not completely inclusive. If you have a side gig with multiple sources of income and several different purchases and expenses, there may be other opportunities to expense and deduct some of the other costs, but this is a general guide to the more common types of expenses to track and deduct.

Anything that you deduct from your side gig income, you must keep accurate records/receipts for a minimum of three years from the tax return filing date. There are certain situations, such as underreporting your income or claiming bad debt and loss deductions, which require you to hold onto records for longer time frames.

Not all deductions listed below are 100% deductions, so it’s important to either read the Schedule C instructions very carefully, use a tax preparation software, or hire an accountant to make sure you’ve accounted for your deductions properly.

Advertising

Some examples:

  • Website development and hosting costs

  • SEO

  • Advertisements 

  • Affiliate fees

Contract labor

Some examples of independent contractors you may use:

  • Virtual assistants

  • Marketing person

  • Website development

Education expenses

Some examples:

  • Courses you take about your side gig

  • Conferences you attend

Keep in mind that not all educational expenses, however, qualify. Education expenses required to meet the minimum standards for your side gig/business, or that qualify you to operate under your new side gig/business, don’t qualify.

You also need to be able to show that the education paid for maintains or improves the skills required by your side gig, or that it’s required by law in order to practice your side gig. For example, if you are a self-employed as a surgeon for your day job or for locums, you should be able to expense the costs of your required CME courses. You would not, however, be able to deduct your CME for your YouTube channel about sports.

Insurance

Some examples: 

  • Business-related insurance

  • If your umbrella insurance rate jumps because you become a local celebrity or national influencer, you may be able to deduct the difference in the higher premium versus before your newly gained celebrity status.

Legal and professional services

Some examples:

  • Lawyer to help set up LLC

  • Accountant that prepares taxes

    • You want to make sure you prorate the side gig/Schedule C (where you report your side gig earning and deductions) portion of their bill, as you likely cannot deduct the portion that went towards your personal return.

  • Plan administration costs for a defined benefit plan

Office expenses and supplies

Some examples:

  • Office supplies (things you will use up and have to replace, like pens, paper, printer ink)

  • Microphone

  • Ring Light

  • Software

  • Stamps

  • Printer

  • Camera

  • Laptop

  • Phone

Depending on the cost of the equipment and its expected life, you may be able to deduct the full cost of the equipment in the year that you purchased it. If it is a higher sticker price item that you will use for longer than a single year, you may need to depreciate it over several years, up to the life of the item.

If you find yourself with a side gig that includes purchasing expensive equipment and tools (a few hundred dollars or more), it’s important to work with a qualified tax accountant, as there are different depreciation methods and guidelines on how to calculate the Useful Life of the equipment to determine over how many years you need to depreciate the expense. 

Repairs and maintenance

Some examples:

  • Phone repair

  • Laptop repair

Taxes and licenses

​Some examples:

  • If a medically related business, your licensing or membership fees

  • Membership fees for associations related to your side gig

Travel and meals

Normal commute expenses aren’t deductible, but other travel expenses often are. If you are invited to The Webby Awards, you could deduct several different travel expenses, including:

  • Airplane ticket and rental car expenses in the city you’re visit (or taxi/Uber fees)

  • Baggage fees for the airlines

  • Hotel or AirBNB expenses

Certain meal and entertainment costs are also deductible, though it varies by type of meal/entertainment, and percentages deductible for each of the different types of situations have fluctuated in recent years, so make sure you are getting the most up-to-date regulations from the IRS for the tax year in question.

Home office expenses

If you have a side gig that you run through a home office, you are able to deduct a portion of your home office expenses. There are two different methods used.

With the percentage of home method, you calculate your home office square footage as a percentage of your entire home’s footprint. If your home office is 250 sq ft and your home is 3,700 sq ft, the percentage of related home office expenses such as personal property taxes, real estate taxes, and home mortgage interest and points you could deduct would be 250/3700 = 6.7%.

You would use the same percentage for household utilities, such as water, electricity, and gas.

Under the simplified option, you get a standard deduction of $5 per home office square footage, up to a maximum of 300 sq ft.

It’s good to calculate expenses under both the percentage of home method and the simplified option, then take whichever is greater.

Phone and internet

Telephone expenses and internet are treated differently than regular household utilities. If you use the same phone for personal and other non-self-employed-related work calls as you do your side gig, you can deduct the portion of the bill that is used for your side gig related income.

So for our surgeon example, if you use your cell phone 75% of the time for their physician job and personal calls, and 25% of the time for your YouTube/podcast/short-term rental endeavors, you would be able to deduct 25% of your portion of the overall family phone plan. (Be careful when you have phones financed in monthly installments, as this can adjust the part you can multiply your percentage by.)

Internet is treated similarly. If you and your spouse use your internet 80% of the time to work exclusively towards side hustles, you could deduct 80% of their internet expenses.

Because home office expenses and other “utility” expenses like phone and internet fall under different deduction percentage rules than the others, you may want to track these in a separate section(s) of your spreadsheet.

Wages

Some examples:

  • Money paid to employees

  • Benefits paid to employees

If you have payroll you need to run/track, check out our partner: Gusto affiliate link

Retirement contributions

We cover this more below, but employer contributions to self-employed retirement plans are usually tax deductible.

Estimated Taxes

Self-Employment Taxes

 

If you’ve ever worked a W-2 job before and checked your paystub or W-2 at the end of the year (you should do both!) you will have noticed lines for social security and Medicare taxes. For employees, these rates in 2023 are:

Social Security: 6.20% on your income, up to $160,000; 0% on income greater than $160,000

Medicare: 1.45% on all income

When you work for an employer, they are also charged social security and Medicare taxes for you. In past years, these percentages have differed from the employee rate, but as of 2023, they are the same as the ones listed above.

For self-employed individuals, since you are the employer and the employee as far as the IRS is concerned, you owe social security and Medicare taxes for both. So the combined 7.65% you pay as an employee doubles, giving you a self-employment tax rate of 15.3% on top of your federal income tax.

While the government gives self-employed individuals a tax deduction for self-employment taxes paid, it’s a deduction, not a credit. Learn more about the difference between tax deductions and tax credits on our taxes page.

Estimated Taxes

To learn about estimated taxes and why they are important to calculate and report for side hustles, make sure to check out our taxes page. Estimated taxes are due every two to four months, and the IRS can impose heavy fines and penalties if you don’t report and pay them on time.

For self-employed individuals, you generally have to factor in your self-employed income and related self-employment taxes into your estimated tax calculation.

FAQs

Estimating your taxes can be complicated, especially if your side gig income is highly variable. Here are some commonly asked questions and what to keep in mind. As a reminder, always refer to the most recent Form 1040-ES for the current rules and instructions of the IRS or work with a tax professional.

Q: Do I have to pay quarterly taxes?

 

The IRS provides the following general rule to determine if you are required to pay estimated taxes.

 

“In most cases, you must pay estimated taxes for [the current year] if both of the following apply.

 

1. You expect to owe at least $1,000 in tax for 2023 after subtracting your withholding and tax credits.

 

2. You expect your withholding and tax credits to be less than the smaller of:

 

90% of the tax to be shown on your [current year’s] tax return, or 100% of the tax shown on your [previous year] tax return. Your [previous year] tax return must cover all 12 months.”

 

Higher income earners may be required to cover 110% of the previous year’s taxes versus the 100% stated above.  Specifically, if your adjusted gross income (AGI) on your last year’s return is over $150,000 (or over $75,000 if you are married filing separately), then you must pay the lower of 90% of the tax shown on the current year’s return OR 110% of the tax paid on the previous year’s return.

 

This is called the safe harbor rule, and protects you from having to pay excessive penalties if you underpay your estimated taxes.  These rules can get complicated, so talk to your tax professional, especially if your income is changing significantly from one year to the next.

Q: Do you send in an estimated percentage of earned income every quarter or can you just do it annually with tax filing?

Once you have calculated the numbers above, the IRS generally has you divide the smaller of the two estimated amounts (last year versus current year) by four and pay four equal installments throughout the year. These payments are sometimes referred to as quarterly payments, but note that the payment deadlines vary slightly from calendar quarters (as of 2023). Do not wait until July to make your second period deposit.

 

Even if your entire tax bill is paid by April, if you didn’t make estimated payments and were required to based on the rules above, you can still be assessed penalties. These penalties are calculated based on the estimated tax deposit schedule.

Q: If there is a quarter I make no income, do I still need to submit anything that quarter?

If your self-employment income is highly variable, it can be difficult to predict what your current year taxes will be. But the IRS works under a pay-as-you-go tax system. Even if you have 100% of your tax bill paid by the April deadline, you can still have penalties. This is why the IRS recommends four equal installments. Any overpayment would reduce your estimated payment due on tax day for the following year.

 

To learn more about the specifics of when the IRS assesses penalties, you can refer to Chapter 2 of their Publication 505. If you have a highly variable self-employment income and are considering making unequal payment, you can use IRS Form 2210 to make sure ahead of time that you will not be assessed a penalty based on your depositing schedule versus your income.

Q: What is the 199A deduction and do I qualify for it?

 

This refers to the QBI (qualified business income) deduction, which you will see on the Form 1040-ES when determining your estimated taxes for the year. This deduction equals 20% of qualified business income for sole proprietorships, partnerships, and S corporations. (Also trusts and estates.) You can learn more about calculating QBI here.

 

You will generally qualify for the 199A deduction unless:

  • You’re a C corporation

  • Your trade/business is a SSTB and your taxable income exceeds a threshold limit the IRS sets

  • You’re an employee, not self-employed

 

SSTB: specific service trade or business. This includes individuals and businesses performing services in the industries including (but not limited to):

  • Health 

  • Consulting

  • Performing arts

  • Accounting

  • Law

  • Financial and investing services

 

*This is important to note because many physician side gigs or self-employed income streams may fall into the SSTB category.

 

Many physicians invest in REITs, and these also qualify for the 199A deduction.

 

The threshold amounts as of 2018 were $315,000 for married filing jointly and $157,500 for all others. There is a phase-out range of $315,000 to $415,000 for married filing jointly and $157,500 to $207,500. 

 

The QBI deduction is allowed for tax years 2018 through December 31, 2025, and will then expire if Congress does not extend it.

Need help?

Several software exist to help you calculate and file your taxes. Some are free for less complicated returns and others charge a fee for add-ons such as self-employed income, business income, and state returns. If you have a complicated situation, it’s important to get professional help to avoid a nightmare audit situation with the IRS.

Business Types

Types of Business

 

As your side gig work grows, you may start to wonder whether you should set up a company and, if so, what kind. Let’s break down the common different options.

Physician tip: while different types of business entities offer different types of protection, none of them protect you from malpractice claims, since malpractice suits are personal in nature and not directed towards a business entity. This is why it’s always important to make sure you’re properly covered.

Sole proprietorship

If you work under your own name and your own social security number and receive income as such, you are a sole proprietorship. You operate the business as the sole owner. Since all activity is linked directly to you, you are personally responsible for all aspects of the business.

As a sole proprietorship, you may need to register for a business tax employer identification number (EIN) depending on your local regulations, but there are no other legal requirements to establish this type of business. It is the cheapest and easiest method of running a side gig and great for one off work situations.

Note: if you plan on opening a self-employed related retirement account, you will likely need to register for an EIN with the IRS in order to open a plan, such as a solo 401(k). This takes a few minutes on the IRS website.

DBA (doing business as)

 

A DBA is a fictitious name you register so that you can run a sole proprietorship or partnership under a name different from your legal given name.  Not all businesses need these DBAs - it just depends on your state/local requirements and your preferences.  

Like the sole proprietorship, under a DBA you are still personally responsible for all aspects of the business.

LLC (limited liability company)

You can think of an LLC as a middle ground between a sole proprietorship and a corporation (although some LLCs can be corporations themselves tax wise). In many cases, especially for private practices, we generally recommend setting up an LLC or PLLC, but it’s important to understand your unique situation to make sure an LLC is the right choice for you.

An LLC is a business structure recognized by state statute, which means there can be different rules and regulations state by state. In general, an LLC should be registered in the state that you are operating in. If you plan to run your business in multiple states, you may need to register with each state in which you operate. (Again, since LLCs are state-regulated entities, what it means to be “conducting business” in a certain state is dictated by that individual state.)

It’s important to make sure you know your state’s (or states’) requirements. When setting up your LLC, it’s worth working with an attorney who understands not just LLC law but LLCs in the state you plan to run your company in since rules and regulations can vary drastically. 

Note specifically for physicians: Depending on your state, you may need to form a PLLC (Professional LLC) instead of a standard LLC if the business is medicine related. A PLLC is basically a special kind of LLC that’s specifically designed for licensed professionals like doctors. If you form an LLC that is tangentially related to your role as a physician but doesn’t actually practice medicine (for example, you start a business about physician life), you may not need a PLLC, but the Secretary of State’s office in your state may require a letter from the state medical board signing off that you’re not providing medical services through it.

Advantages

  • Your personal assets are generally protected from the company’s debt and liabilities

  • Offers flexibility in taxation; you elect with the IRS how to be treated (as a sole proprietorship, a partnership, or a corporation)

  • Option to change your tax election for an LLC from a corporation to a partnership or sole proprietorship if tax advantages shift over time (which is not possible with an actual corporation)

  • Offers better creditor protection than an actual corporation; there are no ownership shares to hand over in a lawsuit

  • Offers flexibility in structuring management and how to run your day-to-day operations

Disadvantages

  • State regulations can change, so you must continually stay up to date with the legislation

  • You have to file an annual report in most states, so there are paperwork and associated fees (this is relatively minor)

Partnerships

If you are looking into starting a private practice with one or more other physicians, you may consider opening a partnership. Partnerships are outlined by the partnership agreement they are built upon, so it’s important to make sure you have professional legal advice when putting the terms of the partnership agreement together.

Like LLCs, partnerships are regulated at the state level.

Advantages

  • Clear structure and responsibilities outlined and shared between the partners in the business

  • Pass-through entities, so no double taxation like a corporation

  • Offer flexibility in management structure

Disadvantages

  • No liability protection

  • If one partner is not able to cover their portion of the business’s debt/liability, the other partner(s) have to assume that burden on top of their own percentages

  • Disagreements and conflicts between partners can cause major issues, both relationally and financially

  • Transferring control in a partnership can be a complicated process and may require consent from all current partners

  • State regulations can change, so you must continually stay up to date with the legislation

LLP (limited liability partnership)

While an LLC is like a cross between a sole proprietorship and a corporation, an LLP is similar to a cross between an LLC and a partnership.

Advantages

  • Provides limited liability protection for the partners

  • Clear structure and responsibilities outlined and shared between the partners in the business

  • Pass-through entities, so no double taxation like a corporation

  • More flexibility in structuring management than corporations

Disadvantages

  • Not all businesses are eligible to operate under an LLP (though physicians are generally allowed to)

  • State regulations can change, so you must continually stay up to date with the legislation

  • Does not offer the taxation flexibility that an LLC does

  • Paperwork for setup and ongoing compliance is more burdensome than an LLC or a partnership

C-Corporations

C-Corporations are businesses that are completely separate entities than the owners. They are more complex and expensive to run than other business entities options. They also have separate federal reporting requirements when it comes tax time.

Advantages

  • Great for larger businesses with high complexity and capital

  • Shareholders can raise capital through selling shares/equity

  • Ease of ownership transfer

  • No life limits imposed

Disadvantages

  • Complex and expensive to maintain - accounting, legal is more complicated

  • High restrictions on management set up (including bylaws, shareholders meetings, etc.)

  • Double taxation for C-corporations: the company pays taxes and the owners are taxed on their business income generated

S Corp vs. C Corp

Coming soon

Retirement

Self-Employed Retirement Plan Options

 

When you work for yourself, whether in a side gig or as an independent contractor, you don’t have the benefit of a regular retirement plan sponsored by an employer because you are the employer. This doesn’t mean you miss out on tax advantaged retirement plans, though. You actually may be able to put away MORE money towards retirement. Here are some great investing options that are often overlooked. If you're not sure how to invest within your plan, check out the investment options section of our personal finance page. We also have a page on the three-fund portfolio strategy.

Solo 401(k) plans

These show up under several different names, such as: self-employed 401(k); one-participant 401(k); individual 401(k); solo-k, i401(k); uni-k; and one-participant k. A self-employed plan is a 401(k) plan covering a business owner (and their spouse if they work for the business) who doesn't have any other employees.

Below, you’ll see both employEE and employER when discussing contributions. Make sure to distinguish the two as there are different rules and limits based on the role you play as each.

Most online brokers, such as Fidelity and Vanguard, offer solo 401(k) plans, at low to no fees depending on your portfolio value. You will likely need to register for an EIN specifically for your solo 401(k) plan with the IRS, which you can do here. Make sure the EIN number you register for your 401(k) is used only for the 401(k), as you don’t want the IRS confusing your 401(k) plan income with other self-employed income revenue streams.

You have until December 31st to open and fund the employEE portion of the plan for the year.  The employER portion can generally be funded until the tax filing deadline for the tax year (including up until the date you file if you file an extension).

Once you reach a balance of $250,000 in your plan (for 2023), you are required to report your plan annually to the IRS with a Form 5500. Regardless of your plan balance, you should keep detailed records of your employer and employee contributions to your solo 401(k) plan. 

Many solo 401(k) plans offer both traditional and Roth options, and you can contribute to both for the employEE portion. EmployER portions, however, must be made to a traditional solo 401(k).

Contribution Limits

Since you are both the employEE and employER for your self-employed business, you can make contributions as both. This is one of the great features of a solo 401(k) plan, as it offers some tax advantages.

 

EmployEE contributions can be made up to 100% of "earned income", up to a $22,500 total limit for 2023 ($30k if age 50+ with catch up contributions allows)

 

EmployER contributions can be made up to 25% of compensation.  Talk to your accountant about this to make sure you’re calculating 25% of the right number before you make your contribution, as this calculation can be more complicated when accounting for deductions, expenses, etc.

 

The TOTAL MAXIMUM CONTRIBUTION between the employEE and employER contributions for a participant is $66,000 for 2023 (plus catch-up at age 50+). 

Multiple 401(k) Rule

If you have multiple 401(k) plans/accounts, your total employEE contribution for the year remains $22,500 total across all your 401(k) plans you may be contributing to. So if you are maxing out your 401(k) at your primary physician job to maximize your match, you would not be able to contribute as an employEE to your solo 401(k), but you could still contribute as the employER portion to the 66k max assuming that you have the self employed income to support it. 


If you have multiple self-employed businesses, you may be able to have multiple solo 401(k) plans to take advantage of employer contributions for each, though you would have to ensure that the businesses/companies are completely separate under IRS control group definitions.

Earned Income Calculation

Above, you’ll notice “earned income”. This is a special term the IRS uses. It is calculated by taking the net self-employment earnings and deducting one-half of your self-employment tax plus contributions for yourself. There is also a special calculation to figure out the maximum amount of employer + employee contributions you can make. This math can get a little complicated, so we recommend using a calculator, such as this one.

SIMPLE (Savings Incentive Match Plan for Employees) IRA

The SIMPLE IRA is another retirement option available for the self-employed entrepreneur. SIMPLE IRAs are available for small businesses up to 100 employees. They generally offer low administrative costs and are typically easier to implement with less reporting and recordkeeping/paperwork requirements than a solo 401(k).  

In a SIMPLE IRA, the employer must contribute to the employees’ plan. They must either:

  • 100% match employees’ contributions up to 3% of their earnings

  • Contribute 2% of the employees’ earnings up to a stated compensation limit, which is $330,000 for 2023. (Employee contribution limits for the SIMPLE IRA as of 2023 are $15,500.)

 

While SIMPLE IRAs are nice if you have other employees since that disqualifies you from a solo 401(k), it can become a costly benefit the more employees you have.

 

SIMPLE IRAs do not offer a Roth component for employee contributions. As such, it acts like a traditional IRA with pre-tax contributions that grow tax-deferred with required minimum distributions (RMDs) once you’ve reached retirement age.

SEP (Simplified Employee Pension) IRA

The SEP IRA is a retirement plan available for employers, including self-employed individuals. With a SEP IRA, only the employer makes contributions; there is no employee side. Since employer contributions are required to be pre-tax funds, it acts like a traditional IRA (no Roth option) with contributions growing tax-deferred. Like a SIMPLE IRA, it has required minimum distributions (RMDs) once you’ve reached retirement age.

One of the advantages of the SEP IRA is that, similar to the Solo 401(k),  it allows employers to contribute as much as 25% of your net earnings from self-employment (not including contributions for yourself), up to $66,000 for 2023. A SEP IRA plan is also available if you have other employees, where a solo 401(K) is only available if it’s you and a working spouse.

These plans are typically easy to set up and are low cost to operate, generally with no filing requirements for the plan. They work great if you are self-employed without any employees. Once you have other employees, though, as the employer you have to contribute equally for all eligible employees.

Note: if you use this option, you will NOT be able to do the backdoor Roth, which many physicians like to do for additional tax advantaged options, because you would violate the pro rata rule of the backdoor Roth.​ The solo 401(k) does not have this limitation, which is why many of us prefer it even though the paperwork gets more complicated after you accumulate the $250,000 balance in the solo 401(k).

Defined Benefit Plan

*Big disclaimer: Defined benefit plans and cash balance plans are extremely complicated, and we have tried our best to summarize these to the best of our understanding, but you should double check everything we say about defined benefit plans and cash balanced plan with a professional that specializes in these. These are not plans that you run by yourself, and will require a lot of expertise to set up.  They come with substantial administrative fees and paperwork, so most people do not consider these unless they are able to put substantial amounts of tax advantaged money into these that justify the reliance on someone else to run these, and the fees associated with it.  Also, please note that contributions made to these plans may affect how much you can put into other retirement accounts, again necessitating the need for appropriate advice before setting these up.

However, they can be great tax advantaged outlets, so it’s worth looking into them if you’re someone that has the financial bandwidth to put more money into retirement accounts.*

 

While the solo 401(k) plan works like a traditional employer 401(k) plan and the SIMPLE and SEP IRAs operate more like traditional IRAs, defined benefit plans are more on par with a traditional pension plan.

 

Under a defined benefit plan, as the name suggests, the plan provides a specific, defined guaranteed annual benefit to you and your employees at retirement, usually based on salary and years of service. They can be powerful tax strategy tools if you have enough stable side income or 1099 income to support larger contributions.

 

There are different ways to calculate the benefit payout at retirement. Contributions are calculated by an actuary based on the benefit you set and other factors (employees’ ages, expected returns on plan investments, etc.). One standard takes the employee’s average earnings during a period of their career (the last few years or over their entire career) and multiples a percentage of that earning amount by the number of years of service.

 

Employee contributions are allowed, but generally the employer makes most or all of the contributions to guarantee the retirement benefit payout amount, which from an employer cost makes this plan better suited for side-gig and small businesses.

Advantages: 

  • Does not prevent you from having other tax-advantaged retirement plans

  • Allows for high contribution limits (depending on age, the annual benefit limit for 2023 is $265,000)

  • Contributions are generally tax deductible

  • Tax-deferred growth

  • They produce steady income at retirement age

 

Disadvantages:

  • Quite complicated, requiring actuarial calculations and relevant expertise

  • Expensive to set up and maintain (you cannot do this yourself)

  • Since they operate outside of market fluctuations, they can add a long-term financial burden if you have employees

  • Benefits are set when the plan is determined, so it’s important to take into account long-term forecasts

Cash Balance Plans

Cash balance plans are a type of defined benefit plan where the retirement benefits are based on a cash balance formula in a hypothetical individual account. Since they are a type of defined benefit plan, you can manage one alongside a 401(k), but likely cannot manage one alongside a SIMPLE IRA or SEP IRA.

 

Each year, the participant's account is credited with a "pay credit" (for example, 6% of their income) and an "interest credit" which is either a fixed interest rate or a variable interest rate linked to an index such as a treasury bill rate. This builds the participant's account balance. 

 

When the participant retires, they have the right to an annuity based on their overall account balance. Many cash balance plans also offer a lump sum benefit equal to the account balance versus the annuity. The lump sum benefit can be rolled into an IRA or other qualified retirement plan.

 

Advantages:

  • Offer more ease of adjustment than a traditional defined benefit plan

  • Can be amended periodically, typically prior to any employee working 1,000 hours during that specific plan year

  • Plans can also be terminated or frozen with advanced notices

 

Disadvantages:

  • Can be more expensive to operate than a traditional defined benefit plan, especially depending on ages with more employees, and require nondiscrimination testing every year

  • The sooner you want to retire, the less advantageous they are

FAQ

FAQ

Q: Do I need to set up an LLC or other entity?

The less income from the less number of sources, the less need you have for one. If you are working as an independent contractor in a situation such as an attending or locums, or are picking up small amounts of side gig money from medical surveys or expert witness here or there, you likely don’t need to set up a business entity.

 

As your income and net worth grow, the more a business entity can be advantageous and cost effective. Learn more about the different types and benefits/disadvantages of each above.

Q: Do I need an EIN?

If you have a corporation, partnership, or multi-member LLC, you will need an EIN. For sole proprietorships, DBAs, and single-member LLCs, it depends. You will need an EIN if any of the following is true:

 

  • You have employees

  • You are required to file excise taxes

  • You paid income and withheld taxes from a non-resident alien

  • You have a self-employed retirement plan (reminder: the EIN for the retirement plan should be a different type and number than your business EIN)

Even if you aren’t required to get an EIN, it might be a good idea to get one if you do a lot of business with acquaintances and other businesses that you would rather not give your social security number to on a Form W-9.

Q: Should I use my home address for business related work?

This can depend on your situation. Generally speaking, as a high-income earner, it isn’t a bad idea to have a separate mailing address for business related work. The higher your earning potential and your net worth, the more likely you’ll be targeted and people will be looking up these types of details about you/your company.

 

PO boxes and mailboxes at other companies can provide the following advantages at a relevantly low cost, even if you don’t have a brick and mortar building or shared office space:

  • Some HOAs (and zoning regulations) restrict your ability to operate a side hustle or business from your residential address

  • A business mailing address looks more professional than using your home address

  • You likely won’t want all your vendors and customers knowing your home address for privacy reasons

  • Using a separate business address can help protect you against “piercing the corporate veil” with your limited liability protection of some business structures

Q: Do I need a business bank account or a business credit card?

If you are operating strictly as a sole proprietorship, you don’t need a business account or credit card (and likely won’t qualify to be able to get one). For any other business structure outlined above, the answer is yes. (Though you can opt for a debit card linked to your business account versus a business credit card if you want.)

 

Importance of having a business bank account:

 

  • Helps you track business income and expenses from personal ones. This is important when calculating your expenses you can deduct and income subject to self-employment taxes.

  • Provides a clear distinction between your personal and business transactions in an audit situation (though personal expenses paid for on a business card does not mean they count as a business expense!)

  • For companies such as LLCs, it helps protect you under the limited liability of the business structure.


Getting a business credit card has the added benefit of helping your business build credit separate from your personal credit.  Our partner CardRatings ranks credit cards, including small business ones, to help you navigate the different options and select the one that works best for your business.​

CreditRatings Disclaimer: Physician Side Gigs has partnered with CardRatings for our coverage of credit card products. Physician Side Gigs and CardRatings may receive a commission from card issuers.

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