Who Must Pay Self-Employment Tax?

If you are abroad and you are a self-employed U.S. citizen or resident, other than a U.S. citizen employee of an international organization, foreign government, or wholly owned instrumentality of a foreign government, you generally are subject to the self-employment tax. This is a social security and Medicare tax on net earnings from self-employment of $400 or more a year. For 2000 the tax is on net earnings of $400 or more up to $76,200 for the social security portion. All net earnings are subject to the Medicare portion. Your net self-employment income is used to figure your net earnings from self-employment. Net self-employment income usually includes all business income less all business deductions allowed for income tax purposes. Net earnings from self-employment is a portion of net self-employment income. This amount is figured on Schedule SE (Short Schedule SE (Section A), line 4, or Long Schedule SE (Section B), line 6). The actual self-employment tax is figured on net earnings from self-employment.

Employed by a U.S. church. If you were employed by a U.S. church or a qualified church-controlled organization that chose exemption from social security and Medicare taxes and you received wages of $108.28 or more from the organization, the amounts paid to you are subject to self-employment tax. However, you can choose to be exempt from social security and Medicare taxes if you are a member of a recognized religious sect. See Publication 517.

Effect of exclusion. You must take all of your self-employment income into account in figuring your net earnings from self-employment, even income that is exempt from income tax because of the foreign earned income exclusion.

Example. You are in business abroad as a consultant and qualify for the foreign earned income exclusion. Your foreign earned income is $95,000, your business deductions total $27,000, and your net profit is $68,000. You must pay social security tax and Medicare tax on all of your net profit, including the amount you can exclude from income.

Optional method. You can use the nonfarm optional method if you are self-employed and your net nonfarm profits are less than $1,733 and less than 72.189% of your gross nonfarm income. You must have had $400 of net self-employment earnings in at least 2 of the 3 immediately preceding tax years. You cannot choose to report less than your actual net earnings from nonfarm self-employment. You cannot use the nonfarm optional method for more than 5 tax years. Use Long Schedule SE (Section B). For more details get Publication 533.

Members of the clergy. Although members of the clergy may be employees in performing their ministerial services, they are treated as self-employed for self-employment tax purposes. Their U.S. self-employment tax is based upon net earnings from self-employment figured without regard to the foreign earned income exclusion or the foreign housing exclusion.

Members of the clergy are covered automatically by social security and Medicare. You can receive exemption from coverage for your ministerial duties if you conscientiously oppose public insurance due to religious reasons or if you oppose it due to the religious principles of your denomination. You must file Form 4361 to apply for this exemption.

This subject is discussed in further detail in Publication 517.

Puerto Rico, Guam, Commonwealth of the Northern Mariana Islands, American Samoa, or Virgin Islands. If you are a U.S. citizen or resident and you own and operate a business in Puerto Rico, Guam, the Commonwealth of the Northern Mariana Islands, American Samoa, or the Virgin Islands, you must pay tax on your net earnings from self-employment (if they are $400 or more) from those sources. You must pay the self-employment tax whether or not the income is exempt from U.S. income taxes (or whether or not you must otherwise file a U.S. income tax return). Unless your situation is described below, attach Schedule SE (Form 1040) to your U.S. income tax return.

If you do not have to file Form 1040 with the United States and you are a resident of:

• Puerto Rico,
• Guam,
• The Commonwealth of the Northern Mariana Islands,
• American Samoa, or
• The Virgin Islands,

figure your self-employment tax on either Form 1040-PR or Form 1040-SS, whichever applies.

You must file these forms with the Internal Revenue Service Center, Philadelphia, PA 19255-0215.

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