Social Security tax is paid on our taxable income earnings to fund our future retirement benefits. The more we pay into Social Security, the more we get paid when collecting our Social Security benefits.
If you work for an employer, you and your employer split the Social Security tax every paycheck. Social Security tax is combined with Medicare tax and is called FICA tax. FICA stands for the Federal Insurance Contributions Act.
When we are self-employed and filing our business tax return on Schedule C of our tax return, we pay Self Employment (SE) tax into our future Social Security and Medicare benefits.
Self Employment tax is based on the taxable income from your Schedule C and is in addition to income tax since SE tax only goes toward Social Security and Medicare. Income tax pays for all other government operating expenses.
If your business is taxed as an S-Corporation, you pay FICA taxes on your W2 wages. The S-Corp strategy helps lower taxes at the expense of your future Social Security benefits. If Social Security benefits are important to you, you’ll want to speak with your tax advisor before making the S-Corp election.
You can check your Social Security earnings by logging into your account at SSA.gov. The Social Security Administration (SSA) occasionally mails letters to help you confirm whether your annual earnings are correct.
Your SSA statement may show years with zero income. Why is that? Here are a few reasons this may occur:
- Your business had negative (or zero) taxable income: Net Operating Losses (NOLs) are most common in the trucking industry when new equipment is purchased. Taxable business income controls how much Self Employment tax we pay. We do not pay Social Security or Medicare taxes when our business has zero taxable income (assuming you and your spouse do not have a W2 job elsewhere).
- Your business is taxed as an S-Corporation, but you have not paid yourself as an employee: The IRS will eventually challenge whether you have an S-Corp or C-Corp if you don’t pay yourself a reasonable W2 wage, but this is outside the scope of this article.
- Finally, the SSA data may not be correct: If you know you paid Self Employment taxes for a year that appears on your SSA report as $0 wages, you should contact them by visiting SSA.gov or calling them.
Social Security benefits are complicated to calculate, but hopefully, this information helps you understand HOW they capture your annual taxes paid into the SSA system.