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Different types of self-employment: Which one is right for your business?

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You may be self-employed if you own a business. The IRS has specific rules that define who business owners are considered self-employed. All self-employed people are business owners. However, not all business owners can be regarded as self-employed. What are the different types of self-employment?

Five types of self-employment

Before we get into the five types and definitions of self-employment, let’s first define what self-employment is.

  • According to the IRS, self-employed people must perform at least one of these:
  • Trade or conduct business as an independent contractor or sole proprietor
  • Participate in a partnership that deals with or does business
  • Do something different if you are in business for yourself, whether full-time or part-time.

The IRS defines self-employed individuals as members (aka owners) of limited liability companies (LLCs). The government taxes LLCs as partnership partners for multi-member LLCs and sole proprietorships for single-member LLCs.

With these criteria in place, let’s look at five types of self-employment.

1. Freelancers

Freelancers, also known as independent contractors or contract workers, are the most common form of self-employed people. The IRS defines an independent contractor as someone who is not bound by the outcome of work done. Independent contractors have control over how and what they do.

They are their managers. They are responsible for finding and securing work and billing clients. They decide how, when and how much they do.

Although they work for companies, independent contractors are not employees. Contractors work for themselves and are not employees of companies.

Contractors receive the most common Form 1099-NEC form, Nonemployee Compensation. The 1099-NEC report all payments made to contractors for the current calendar year. Contractors do not create these forms. The contractor is sent Form 1099-NEC by the company that performed the work.

2. Gig workers

You may think of gig workers as personal trainers, DoorDash drivers, or Uber drivers. What makes these people different from freelancers and other workers? This subtle distinction is what makes them different.

As freelancers, gig workers do not work for the company. They do not work for the company they work for. To report wages, gig workers receive Form 1099-NEC at year’s end.

Because gig workers are not freelancers, they may have different control over their work hours than freelancers. This is because of the nature and scope of what they do. While freelancers usually only work one job, gig workers can work several.

A second difference is that gig work is often shorter-term than freelance work. While freelancers can spend weeks on one job, gig workers may be able to move quickly between the two (e.g., Uber drivers).

3. Sole proprietorships

Many businesses are started as sole proprietorships. If the government recognizes the person and business as one legal entity, a sole proprietor is someone who owns and runs the business. Business owners get all the income, but they also take on all the risks and all the debts. The lack of legal separation also means that personal assets such as business owners are at risk.

When starting a business, individuals don’t need to declare themselves sole proprietors. They are sole proprietors unless they file paperwork to create a different legal structure.

Solo proprietors must file all legal documents under their names, as it is the legal name for their business. You can register a different business name using a DBA (doing business as) name. Register with your state if you choose to use a DBA name. However, you must file all government forms and applications with your real name, not the DBA.

What forms must sole proprietors submit for taxes? Sole proprietors file the following conditions:

  • Schedule C, Profits or Losses from Business
  • S. Form 1040 Individual Income Tax Return

Solo proprietors are required to pay self-employment taxes. Your quarterly estimated taxes may be due if you are a sole proprietor.

4. Partnerships

Partnerships are different from sole proprietorships. More than one person owns them. Sometimes partners are called members or co-owners.

There are four types:

  • General Partnership: A partnership between two or more people. Profits and losses are usually shared equally unless otherwise stated.
  • Limited partnership: Business owners work with silent investors. Silent investors need help to make company decisions or manage daily operations. Investors do not have the management or risk of liability functions. This type of partnership is more structured and cannot be formed under the state’s limited partner law.
  • Limited liability partnership: Partners are not personally responsible for business debts or the actions of other partners. This type of partnership allows each member to be solely responsible for their actions and can protect them from other members.
  • LLC partnership: This is a limited liability partnership with multiple members rather than just one owner. This partnership does not allow members to sue the business for its debts and actions. However, other members may be held responsible for their actions.

For tax purposes, the IRS considers partners self-employed. Partnerships are subject to pass-through taxation, which means that profits and losses are passed through the company to the members. This taxation is what makes partners self-employed.

All partners must file:

  • Form 1065, U.S. Return on Partnership Income
  • Schedule K-1, Participant’s Share of Income and Deductions Credits, etc.

5. Limited liability companies with one member

An LLC is a legal entity that is legally independent of its owner. LLC owners enjoy the same legal and financial protections as corporations. They can open bank accounts and credit cards and process transactions under the company name without revealing their personal information.

The LLC is a separate legal entity, so the owner of an LLC is not personally responsible for business debts. Owners can avoid risking their assets if the company takes on an obligation.

Limited liability companies are subject to pass-through taxes. The income tax liability of the business passes to the owner. Owners also report their profits and losses on personal tax returns. This makes them self-employed to IRS.

LLC owners are treated as sole proprietorships. They must report their business’s profits or losses on Schedule C. This is attached to their income tax returns.

  1. There are pros and cons to self-employment.
  2. There are pros and cons to every type of self-employment.

Self-employment has many benefits:

  • You can make your hours
  • Personalizing your work environment according to your needs
  • Choose the work that interests you
  • Deciding what work style you prefer
  • All the rewards
  • Total control over the business
  • The following are some cons of self-employment:
  • Long hours
  • The company takes on all possible risks
  • You may also experience problems if you don’t hire employees or have a partner.
  • Working alone or with coworkers is not a good idea.
  • You can do all the work
  • Every decision is made, sometimes without input

Self-employment has its benefits, but there are also drawbacks. You have the power to change a decision that doesn’t work, i.e., taking on a risk. James Crawford, the co-founder of DealDrop, says:

Before deciding which type of self-employment to pursue, consider the pros and cons. Next, weigh all self-employment options and decide which is best for you. If your self-employment is not listed, you can file paperwork to modify the legal structure of your business.

Brian Santiago

Why Finding Your Niche Is Key To Your Business’ Success.

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