When you decide to start up a business on your own, your default business is a sole proprietorship, just as a general partnership is the default business when two or more people start up a business. Handling taxes as a sole proprietor can seem a little murky at first, particularly when you are in the first couple years of your business. Here's what you'll need to know.

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Estimated Quarterly Taxes Apply

Sole proprietorships must pay estimated quarterly taxes every year. Failure to pay them results in a penalty if the total tax liability exceeds $1,000. If the tax liability exceeds $1,000, then the tax penalty will be between eight and 12 percent of the difference. This tax penalty applies if you've underpaid by 10 percent or more. Estimated quarterly tax payments are made on the 15th of each quarter.  Ideally, you should take out your taxes as soon as you get your checks to make sure that you have enough for the quarterly tax payments. Just remember that the first quarterly tax payment of the year is in April, not January.

How and When to File

When you're reporting your taxes on a sole proprietorship, you'll use the 1040 form. This is where you file your annual personal tax returns. The sole proprietorship is not considered a separate entity, unlike a corporation. Additionally, since you don't have a partnership, you don't have to worry about filling out Schedule E.

According to the IRS, business taxes must be filed on March 15. However, sole proprietorships are sometimes debatable, though the IRS has not clarified this point. If your sole proprietorship does not do much business, you might be able to get away with filing by April 15. However, you run the risk of an additional tax penalty. If you need until April 15, then you can file for a free tax extension. These tax extensions are approved on an as needed basis, and they apply from the tax filing deadline rather than the time when you filed for the tax extension.

Making Business Deductions

So long as you aren't running a hobby business, you can make deductions for your sole proprietorship. The thing to remember is that your business expense deductions need to be ordinary and necessary. “Ordinary” here just means that they are the type of expenses that other similar businesses might incur. “Necessary” just means that they were for something to help your business. You will want to keep your receipts for these purchases so that you can claim them and prove the costs. You can also take other deductions, such as the lifetime learning credit, startup costs, and the like. Remember that the distinction between startup costs and regular operational costs is that startup costs are all of the expenses you incur before the business starts officially.

Paying Self-Employment Taxes

There are no sole proprietorship taxes per se, but you will have to pay self-employment taxes. Self-employment tax includes Social Security and Medicare. For the 2013 tax year, Social Security takes about 15.3 percent of your net while Medicare is 2.9 percent if you earn less than $200,000. If you earn more than $200,000 (if you’re filing singly) or $250,000 (if you’re filing jointly) you pay 3.8 percent in Medicare tax. Self-employment tax does not include your federal and state income taxes.

Get started Start Your Incorporation Answer a few questions. We'll take care of the rest.

Get started Start Your Incorporation Answer a few questions. We'll take care of the rest.