Every tax season, many self-employed people — consultants, contractors, small business owners — are surprised by how much they owe. In many cases, the issue isn't that they earned too much. It's that they haven't used the tools available to them.

The Self-Employment Tax Burden Is Real

When you work for an employer, Social Security and Medicare taxes are split between you and your employer (7.65% each). When you're self-employed, you pay both halves — 15.3% on net earnings — on top of your regular income tax. On $150,000 of net income, that's over $21,000 in self-employment tax alone before any federal income tax. The good news: there are legal, IRS-approved ways to significantly reduce your taxable income.

What Is a SEP-IRA?

A Simplified Employee Pension (SEP-IRA) allows self-employed individuals and small business owners to contribute up to 25% of compensation to a retirement account — up to the 2026 IRS limit of $72,000. For sole proprietors and single-member LLCs, that works out to an effective rate of about 20% of net self-employment earnings (after subtracting half of your self-employment tax). Every dollar you contribute reduces your taxable income dollar-for-dollar. If you're in the 24% federal bracket and contribute $40,000, you've reduced your tax bill by approximately $9,600. The money then grows tax-deferred until retirement.

A Simple Example

Say you're a sole proprietor with $200,000 in gross income and $50,000 in business expenses — leaving you with $150,000 in net income. After subtracting half of your self-employment tax (about $10,600), you're left with roughly $139,400. At the effective 20% rate for sole proprietors, your maximum SEP-IRA contribution would be approximately $27,900. At a 24% federal bracket, that contribution saves you around $6,700 in federal income tax for that year alone — while growing your retirement savings at the same time.

Who Qualifies?

  • Sole proprietors and independent contractors
  • Partners in a business partnership
  • S-Corp owners who receive W-2 wages from their S-Corp
  • LLC owners (depending on tax election)

You can even set up a SEP-IRA and make contributions for the prior tax year up until your tax filing deadline (including extensions) — meaning there's still time to reduce last year's tax bill.

If you haven't explored whether a SEP-IRA, Solo 401(k), or defined benefit plan makes sense for your situation, this is one of the most impactful planning conversations we can have.

This article is for general educational purposes and does not constitute tax, legal, or individualized financial advice. Contribution limits, deadlines, and eligibility rules for retirement plans change annually and depend on your business structure — consult a qualified tax or legal professional about your specific situation.