A contracting business operates as a sole proprietorship with annual revenues of $750,000 and expenses of $620,000. The owner takes a $60,000 salary. What amount is subject to self-employment tax?
Correct Answer
D) $130,000
In a sole proprietorship, the entire net profit ($750,000 - $620,000 = $130,000) is subject to self-employment tax, regardless of what the owner actually takes as salary. The $60,000 salary is not a deductible business expense in a sole proprietorship.
Why This Is the Correct Answer
In a sole proprietorship, the owner and the business are legally the same entity for tax purposes. The entire net profit of $130,000 ($750,000 revenue - $620,000 expenses) is considered self-employment income subject to self-employment tax. Unlike corporations or LLCs, sole proprietorships cannot deduct owner salaries as business expenses because the owner cannot be an employee of themselves.
Why the Other Options Are Wrong
Option A: $70,000
This represents the total expenses, which is not relevant to determining self-employment tax liability.
Option C: $60,000
This amount doesn't correspond to any relevant calculation in this scenario and appears to be a distractor.
Memory Technique
SOLE = Single Owner Liable for Everything (all net profit subject to self-employment tax)
Reference Hint
Business and Finance chapter, specifically sections on business entity types and tax implications for sole proprietorships
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