Self-Employment | Definition

Freelancers and independent contractors are also considered to be self-employed individuals.

Are you thinking about taking the plunge into self-employment? But maybe you’re unsure what that means. Being a self-employed entrepreneur is entirely different than being an employee, and for those who are built for it, it can be incredibly rewarding.

What is Self-Employment?

So what does it mean to be self-employed? According to the Internal Revenue Service, IRS, being self-employed means “You carry on a trade or business as a sole proprietor or an independent contractor. You are a member of a partnership that carries on a trade or business. You are otherwise in business for yourself (including a part-time business or a gig worker).” To understand what that means, we’ll look at each of these.

Sole Proprietorships and Partnership

To be a sole proprietor, you are running a business by yourself. You can have employees and have a business that is quite large, but your life is inextricably tied up in the business. There is no legal distinction between the two.

Image Credit: Jasen Wright / Shutterstock.com

Recommended Read: Five Mistakes to Avoid When Starting a New Business

A partnership is the same, but instead of having one owner, you have multiple owners. The key here is that you are legally connected to the business because no entity owns the business. There is only you. Owning a trade business would fall into one of these two categories.

Owning a corporation, on the other hand, is actually not being self-employed. When you own a corporation, you are considered an “owner-employee.” In this case, the entity is distinct from you and you are treated more as an employee (for example, you can take a salary, etc.). The corporation is a limited liability company (LLC), meaning that if anything was to go awry from a financial standpoint, the liability would be limited to the amount of money invested into the business. 

Recommended Read: Five Mistakes to Avoid When Starting a New Business

Freelance and Independent Contractors

The other type of self-employment is to be a freelancer or independent contractor. As a freelancer or independent contractor, you are not running your own business but lending your services to other businesses. Since you are not employed by only one business, you are employed by yourself.

Gig workers also fall into this category because while some people only work for one company as a gig worker, there is no restriction on who a gig worker works for. For example, you can drive for both Uber and Lyft with no one batting an eye. The reason is that you are lending your services to those companies, and they are not employing you.

Recommended Read: 7 Ideas for Holiday Gifts to Give an Entrepreneur

Pros of Self-Employment

There are several benefits to self-employment over W2 employment.

Job Flexibility

The first benefit of self-employment is job flexibility. You can create your own schedule, take time off without asking for permission, and create a perfect work environment for you. Not everyone that is self-employed understands and takes advantage of these benefits, but they are powerful. Traditional employment has a stricter work schedule, and it is not as flexible as self-employed people. 

Working Toward Your Dream

Being an employee has been described as working hard for someone else’s dream. Meaning that even though you get paid as an employee, the owner gets rich as the owner. A self-employed person then is building their own dream. Any wealth that the business generates would be going into your pocket and not someone else’s pocket. Some businesses are better at generating wealth than others, but this is still a huge benefit.

Tax Advantages

My favorite advantage of self-employment is the ability to write things off of your taxes. Purchases that you make every day as an employee cannot be written off because you’re an employee, but they can be written off as a self-employed person. For example, driving to work is not a tax write-off. But, if you have to drive to appointments as a self-employed person, you can write off the entire trip. The tax advantages are too numerous to mention here, so talk to your CPA about the benefits.

Recommended Read: IRS Free File: How to File Taxes for Free 

Image Credit: GaudiLab / Shutterstock.com

Cons

As with anything, there are also downsides. Here are the drawbacks to being self-employed.

No Time Off

While it is true that you have a very flexible schedule, that flexibility usually comes at the expense of getting things done. If you take a week off from your business to go on vacation, no work gets done for that week. In this way, your hours worked are usually tied to your earned income even more closely than a wage earned who can have paid sick leave and so forth.

It is possible to put systems in place and hire employees and so forth to make it easier to take time off, but even so, no one can really replace you in a self-employed business.

Balancing Business Management

Another downside is that no matter what kind of business you own, you must run it as a business. Sadly, this is the con that kills many businesses. Say, for example, you want to be the world’s best dog groomer. You wouldn’t usually think of a dog groomer having to be skilled at managing assets and bills due and so forth, but as a small business owner, that is crucial. You must understand how much money you are making for your time. Too many business owners are making basically nothing once all their expenses are factored in because they don’t understand this con.

You can mitigate this by hiring the right CPA to manage your accounting, but you still have to manage the manager as they say, so becoming educated on the business side of owning a business is vital if you want to be successful.

Variable Income

Unlike wage earners, you cannot depend on a certain income every month. Depending on the work completed (and paid), your income can vary wildly. This is a problem for two reasons. First, it makes it hard to budget. It is easy to blow your money when you have it and then starve yourself when you don’t. So keeping your lifestyle steady during wild swings requires discipline.

Second, banks don’t like people with variable incomes. That means it is much harder to get a loan, especially a mortgage. Ironically, business owners, who need to use credit the most, have the hardest time getting approved for credit.

Taxes, Investing, and Retirement

One last thing to keep in mind, which is neither a pro nor con, is that, as a self-employed person, taxes, investing, and retirement all fall on you. You must pay your own taxes throughout the year, there is no employer match for your investments and retirement, and in general, when it comes to money, the buck stops with you. There can be great benefits to this if managed well and great disadvantages if mismanaged.

The Money Wrap-Up

Self-employment is not for everyone, but the potential benefits are huge. If you are driven to build your own dream and want to have more control over your life, then considering self-employment is a great idea. Just remember to watch out for the pitfalls, and you’ll be fine.

Main Image Credit: Rawpixel.com / Shutterstock.com