Key Takeaways
- How much to save: Generally 25–35% of income, but depends on income type and tax bracket.
- W-2 income: Taxes are withheld; adjust Form W-4 if you have extra income (dividends, rental, distributions).
- K-1 passthrough income: Pay quarterly estimated taxes, usually 25–35% of net income.
- 1099/self-employment income: Save 10–30% for income + self-employment taxes.
- Capital gains: Typically taxed 20–30%, depending on short- or long-term status.
- State taxes & self-employment tax: Factor in state rates and ~15.3% SE tax for freelancers.
- Planning tip: Use a separate tax savings account and update estimated payments if income changes.
When you’re self-employed or running your own business, one of the most common questions is:
“How much should I set aside for taxes?”
As a general rule of thumb, this is between 25%–35% of your income — but there are caveats that help you get to a more precise number. A solid understanding of how your taxable income, income sources, tax rate, and business expenses affect your tax bill helps you plan ahead. You'll be able to avoid surprises, and stay compliant with federal and state income tax obligations.
It Depends on the Type of Income
How much you should save depends on the type of income you earn — and how that income is taxed by the IRS. Below is an overview of the most common revenue sources for small business owners.
1. W-2 Income (Employees — Even If You Own the Business)
If you pay yourself through payroll using a W-2 form, your taxes — including federal income tax, FICA taxes, and state taxes — are automatically withheld.
You can adjust your withholdings by updating Form W-4 or following the Supplement Form W-4 Instructions for Nonresident Aliens, if applicable.
If you earn dividends, rental income, or take distributions from your company, those additional earnings may bump you into higher tax brackets, so checking your withholding is important. Many business owners review this quarterly — especially when they’re balancing both W-2 and 1099 income streams.
2. Passthrough K-1 Income (S Corporations – Form 1120S and Partnerships – Form 1065)
For many of our clients, this is the main income source — and how much you should set aside can vary depending on your overall tax bracket and state tax exposure.
K-1 income from S Corps and partnerships is subject to federal and state income taxes (but not self-employment tax for S Corp shareholders). A general guideline is to set aside:
- 25%–35% of net K-1 income for combined federal and state taxes
- The higher end of the range if you are in a high-tax state or have multiple income streams
- The lower end if you have strong deductions, QBI, or retirement contributions reducing taxable income
Because passthrough income isn’t withheld like a W-2, owners typically make quarterly estimated tax payments (Form 1040-ES) to avoid underpayment penalties. If your income fluctuates, recalculate estimates midyear to stay accurate.
3. 1099 Income (Independent Contractors & Self-Employed Individuals)
If you receive 1099 forms (such as Form 1099-NEC) for freelance income, you’re responsible for both income tax and self-employment tax — including Social Security and Medicare contributions that employers normally withhold.
A general rule of thumb is to save 10–30% of your income for estimated taxes:
- 10–15% if your income is modest and you can deduct many business expenses (cell phone, standard mileage rate, supplies, etc.)
- 25–30% if your income is higher or you owe both federal and state taxes
Since there is no withholding, you’ll make quarterly estimated tax payments using Form 1040-ES, which cover income tax and self-employment tax. Missing payments may trigger penalties calculated on Form 2210.
If your income changes significantly, update your estimated payments midyear.
4. Capital Gains and Other Taxable Income
Profits from selling assets — like stocks, real estate, or business interests — are subject to capital gains tax, typically ranging from 20–30%, depending on your tax bracket and whether the gains are short- or long-term.
You can reduce this liability through:
- Qualified Business Income (QBI) deductions
- Retirement contributions
- Election into payment plans like the Budget Payment Plan through your tax authority
Other income sources — such as self-employment income, excise taxes, and health insurance deductions — also affect your total taxable income.
Don’t Forget Federal and State Taxes
Your tax bill includes both federal and state income taxes, which vary significantly depending on where you live. Some states (like Florida and Texas) impose no income tax, while others add several percentage points to your total liability.
If you’re self-employed, note that self-employment tax is approximately 15.3%, covering both Social Security and Medicare.
Setting aside funds in a separate business savings account helps ensure you’re prepared for quarterly estimated tax payments.
Final Thoughts
For many small business owners and independent contractors, saving 25–30% of gross income is a safe starting point. But there’s no one-size-fits-all answer — your tax obligations depend on your income type, location, and deductions.
If you receive a mix of W-2 wages, K-1 passthrough income, 1099 income, or capital gains, planning ahead and making accurate estimated tax payments is critical.
Working with a tax professional who understands self-employment taxes, passthrough taxation, Form 1040-ES estimated payments, and multi-source income is the best way to avoid penalties and stay ahead of your tax burden.
By staying proactive, you’ll protect your business cash flow — and head into tax season with confidence.