Freelance Finances – What to Do with All that Money
Posted March 28, 2011 in Accounting/Bookkeeping
Being a successful freelancer means you have the ability to earn a lot more money than you ever could with a full-time job.
Therefore, it’s very important that you have a good financial head on your shoulders. Otherwise, you could end up broke, in debt, or even lose your business.
It’s quite easy to forget about sticking to a budget or about saving when you’re making lots of money, but are you prepared for an emergency? Are you really prepared?
What if you’re out of work for six months because of being ill? What if your work dries up?
Here’s my five-step plan for being smart with your money, making the most of it–and finally–enjoying it!
Step 1: Taxes
Before you can do anything with your money, you must put money away for taxes. You don’t want Uncle Sam (or whatever you call your tax man in your country) knocking on your door, giving you an audit and forcing you to pay thousands in fees.
While I’m certainly not a tax expert, I recommend putting away at least 30%, while you’ll probably end up getting some money back after all of your business write-ups, this ensures you don’t owe money at the end of the tax year. Of course, if you make more than $100,000 a year, I’d definitely put in more.
I prefer to stay hands on with my money and taxes, so I don’t use an accountant. If you go this route you have to make sure you send your quarterly payments on time (if you’re in the U.S) and pay your final bill by April 15th. I prefer to use the business version of TurboTax, as it checks for errors, helps find as many write-offs as possible, and assesses your potential for an audit.
Step 2: Savings
The second most important thing to do before you do anything else, is to save. This step can be broken down into several small steps, depending where you are in life.
The first thing I recommend that you save for is an emergency, or rainy day fund. Because you’re in business for yourself, it’s probably a smart thing to save a bit more than the average person, in case something really goes wrong. I personally have saved $10,000 for my fund, but after I’m completely out of debt, I’d feel better if we had $20,000 instead.
Having an emergency fund means you don’t stress when your computer blows up, if you have to be out of work for several months, or if your house blows up (let’s hope not!). It’s a nice cushion that you’re not allowed to touch unless something happens that you’re not able to fund with your normal cash.
Other things you should save for before you tackle any debt is retirement. Since you’re not working for the man, you’ll most likely not get any money from him either. Check out your banks Roth IRA and Traditional IRA options, and contribute the max amount possible each month (which is currently $416.66 I believe in the U.S if you’re single.)
Other things you might want to save for should come after debt payments. These include things like:
- A wedding
- Future babies
- Potential toys (boats, etc, etc)
- Desired home upgrades
Step 3: Paying Down Debt
The key to being wealthy is to be out of debt. After I read The Millionaire Next Door, I realized several things. The majority of millionaires are self-made and got there by starting a business. Almost all of them drive used cars and are out of debt. Only a small percentage of millionaires are celebrities or trust fund babies.
This shows how important it is to be debt free. Never use credit cards and pay the ones you have now off as soon as possible. List your debts in order from lowest to highest in terms of the amount owed, and pay the smallest ones off first. You’ll never really be wealthy if you’re strapped with a bunch of car payments and credit cards.
Step 4: Bills!
Of course, with all this money you’ll need to pay your bills! I like to make bill payment as effortless as only have to record it in my budget, so I’ve set everything to auto-pay. This way, you’ll never have to worry about making your payment on time or waste money on stamps, envelopes and checks. Plus online payments allow you to keep track of your records easier.
At this point, you should probably take a look at some of the bills that can be reduced. Here are some ideas you can consider to lower costs:
- Can you refinance your house at a lower rate?
- Do you need expanded cable AND Netflix?
- Are you making your house energy efficient to lower electricity bills?
- Is there a way to reduce car maintenance and gas expenses?
Step 5: Enjoy!
Finally, we’re to the fun part. There’s no point to working hard and owning your own business if you can’t enjoy the money you’ve made. Always make sure you have a “blow” fund in place that gives you a set amount of money a month to spend on whatever you want to, no matter how trivial or silly.
You’ve earned the right to enjoy yourself, so never feel guilty that all of your money doesn’t go to something important. Everything needs to remain in balance and has its limits, even scrimping and saving needs to come to an end.
More Money Resources
Here are some more of my favorite money resources:
- Dave Ramsey – My favorite financial expert, Dave has a couple of books and an awesome talk show.
- Budget – Awesome software I use based on the envelope system of paying bills and saving.
- Billings – Another essential piece of software for billing & estimating clients. (Mac Only)
Your Thoughts
How do you manage your money? What are some of your money pitfalls?
Image by alancleaver
Related posts:
- The Freelance Mix: Balancing Time, Money, and Results
- 10 Tips for Saving Money as a Freelancer
- 3 Painful Ways You Lose Money Every Month
- How to Save Money While You Get Your Freelancing Business Going
- Work for Passion, Not Money
About the author: Amber is a freelancer with over 10 years of experience and specializes in clean, semantic and valid HTML5, CSS3 and Wordpress development. She also writes a web development blog at www.amberweinberg.com and just launched a web app for developers at www.codesnipp.it.
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31 Comments
Stephan
March 28th, 2011 at 9:03 amDon’t forget state taxes, 30% is probably low as an overall number. Also, my accountant gave me a tip about the estimated taxes (US based businesses): if the total $$ of taxes paid in for the year equals last year’s you don’t have to pay estimated tax penalties. So even though the 4th quarter estimated payment is due in January, pay it in December.
April is by far the worst month if you owe, you have to pay last year’s bill PLUS the first quarter of this year’s estimated…factor that into your cash flow budgeting in the beginning of the year.
Amber Weinberg
March 28th, 2011 at 9:07 am@Stephan Ah I forgot some states charge state taxes. I live in TN, home of no state tax! 30% for federal is actually the most you’re likely to end up paying, don’t forget you have a ton of write-offs to take into account as well, especially if you use Paypal to receive payments.
Stephan
March 28th, 2011 at 9:11 am@Amber – lucky you! Dual-income households also need to factor in a higher percentage, perhaps that’s where our numbers aren’t lining up.
Another thought (wish I could edit my comment, sorry for the double-post): establish a SEP IRA with your Traditional IRA. That way you can take advantage of higher contribution amounts as a percentage of revenue. We had a very good year one year and I dropped more than $10K into my SEP, where with a regular IRA it would be capped at like half that. Talk to your financial advisor (or broker) about how you can convert your Traditional IRA to a SEP: it usually just means some paperwork. The only note of caution: whatever percentage you elect to contribute for the year has to be contributed to every employee’s SEP account (employees, not independent contractors). But if you’re a one-man shop it doesn’t really matter, does it? Oh, and the Roth rules may be changing in the US, ask your financial advisor or broker if you’re looking to set one up anew, it might not be worth it.
Paul
March 28th, 2011 at 9:44 amGreat post, with regards to point 1 best bet is to just hire an accountant, they save you way more than you could by yourself and ensure its all correct. :)
Brian Altenhofel
March 28th, 2011 at 10:00 amAlso on taxes in the U.S: If you’re getting close to the next bracket, make sure you earn enough to get well into that bracket to where what you make isn’t all going to taxes, especially if you’re nearing the $67,000 mark where your rate jumps from 15% to 25%.
Uncle Sam might just be giving you a good excuse to take a vacation close to the end of the year.
Brian Altenhofel
March 28th, 2011 at 10:03 am@Paul: If you hire an accountant, hire a good accountant. And if that accountant is doing your taxes, make sure that the agreement holds them, not you, liable for their mistakes. I know too many other small business owners who have gotten burned because their accountant went a little too far in the grey area trying to maximize deductions.
Big Buddy
March 28th, 2011 at 1:21 pmBump for Dave Ramsey http://daveramsey.com – He is my favorite financial expert too. Great post Amber!
Lucian
March 28th, 2011 at 4:01 pmMy tax preparer told me that the penalties if you pay taxes only once a year, are not large, $30-$100, depending on how much you’ve made. For this kind of money I do not stress out to pay quaterly.
Brian Altenhofel
March 28th, 2011 at 4:58 pm@Lucian: That penalty quoted would translate to a rather small income for a freelance business.
Ensemble
March 28th, 2011 at 10:51 pmall the five points cover the basic living style..i think we can also save for future business which we have in mind and invest few on stocks and MFs..
B. Herzhaft
March 29th, 2011 at 1:36 pmGenius! I would not have thought of ANY of these items! It really is like the music of the spheres come down to the great unwashed (who clearly are not particularly bright)
These ideas simply would not have occurred to me: taxes, savings, paying down debt, bills, and enjoy….
Please.
Amber Weinberg
March 29th, 2011 at 2:21 pm@B. Herzhaft And yet the majority of people have high debt and little savings, so it must not be that obvious. Please refrain from troll comments
Paul
March 29th, 2011 at 2:42 pm@Brian I agree, Hire a GOOD accountant!
Here in the UK accountants can act as your agent so to speak and any negatives come back on them not you so they ensure they do it by the book!
Thomas McGee
March 29th, 2011 at 2:52 pm@B. Herzhaft This (your comment) is a prime example of why, for the design community, comments are becoming useless. Rather than a pointless comment, why not expound upon the topic at hand and actually contribute to the article? It’s comments like this that waste time and lead to saying something just for the purpose of saying it.
All feedback doesn’t necessarily need to be positive, in fact, negative is often the best and most helpful. But it should be done in such a way as to move the conversation forward, rather than just sarcastically attacking the writer.
@Amber Weinberg Nice article, and thanks for sharing your experiences. My only suggestion would be to provide some more websites/tools individuals can use to do these things more effectively (the book was a good one). Other than that, all great and useful tips and reminders.
John Clarke
March 29th, 2011 at 3:16 pm@Amber
As always, a very hands-on and informative article. Some ‘people’ might think that all of the points are obvious, and although some are, 70% of failed business ventures are due to improper financial planning or lack thereof. 50% of the time, when the first money comes in, people go and waste their hard earned cash on e.g. newest sportscar as they dont think or plan for the future or reinvest it back into the business to help it grow
Leslie
March 29th, 2011 at 3:49 pmAs a sole proprietor you can save up to $49,000 in a Sep Ira and/or 25% of gross income. http://www.vanguard.com This is a tax deferred plan so you pay the taxes on the contribution after withdrawing. Of course, there is a penalty for early withdrawal which is the main disadvantage to this plan.
facebook profile pics
March 30th, 2011 at 1:09 amcontains so much info :)
thanks
TheAL
March 30th, 2011 at 2:26 amA fair share of people in my family run business or side businesses, so I at least know a good accountant. She’s very strict, by-the-books, and won’t let you fudge or exaggerate anything. She’s definitely a help with the taxes.
As for the rest, the only thing I’m not actively doing right now is putting money away for retirement. It’s not that I haven’t researched or compared options and chose not to. I’m honestly just not making enough quite yet. It’s a big goal for this year, though. I also don’t follow the “no CC” rule to the letter. I do have one, just got it, and I use it for business expenses so I can just have my receipts and statements from one convenient source. I only buy what I can already afford. And it cleaned the dust off of my relatively banal credit history (the bulk of which was student loans and one CC I used once, paid off and deactivated 7 years ago), and even boosted my already good score a little.
B. Herzhaft
March 30th, 2011 at 3:21 amHi Amber,
You say “the majority of people have high debt and little savings so it must not be that obvious”. I don’t think all (or even most) people are in debt simply because they don’t know the fundamentals of saving, paying taxes etc. They are in an insane upside down economy, which is unlikely to right itself fully and / or anytime soon, and they cannot even get a footing to be able to apply these suggestions.
Sincerely,
B Herzhaft (troll)
Amber Weinberg
March 30th, 2011 at 8:00 am@B. Herzhaft You can not blame your poor choices on the economy, it’s no excuse. People are in debt because they spend more than they make, instead of paring down their lifestyle. They bought bigger houses than they could afford, more cars than they could pay for and ran up high credit card debt to sustain a lifestyle they thought they deserved.
Brian Altenhofel
March 30th, 2011 at 9:24 amB. Herzhaft:
You infer that people are in debt and have no savings because of an “upside down economy, which is unlikely to right itself fully and / or anytime soon”. What exactly is an upside down economy, in your opinion?
The current mess, at least in the U.S., was caused largely by the government forcing banks to lend to people who could not and never intended to repay their loans in the spirit of “equality”. Since lenders could not make money off of this paper, they had to come up with ways to turn a profit while being required to do business in such a way that guaranteed a loss. That’s where we got some really fun financial tools commonly referred to as derivatives.
In the U.S., the economy has not been at “the bottom” for quite a while. If you follow the markets and politics, you’ll see that as soon as signs of a recovery begin to show, Uncle Sam steps in with some new trick that results in market stagnation. The media portrays the worst because bad news sells. It also doesn’t help that the government has been known for quite a long time to give prepackaged “news” clips for TV and radio stations to air and newspapers to print. (That was made very public a few years ago when the same “Washington Correspondent” was found using more than one name depending on which station she was “working” for.)
If someone is currently not in a position to be responsible with their money, that is their own doing. If they put themselves in a hole with debt, that’s their own doing. The reason they are irresponsible with their resources is that they don’t understand (or care to implement) basic fundamentals of financial responsibility.
Brian Altenhofel
March 30th, 2011 at 10:36 amI consider a “good accountant” to be like a “good crew chief” in NASCAR. Uncle Sam gives you a box to play in. The job of an accountant is to push the edges of that box without breaking it to get you every advantage possible. That means exploring the many grey areas in our tax code, but not crossing the line.
While an accountant can act as an agent in the U.S, I’ve learned recently through a friend that the IRS does not knock on the accountant’s door about mistakes and discrepancies, but the business’ doors. That’s why it’s important to make sure that your accountant is the one liable for his or her infractions.
As for credit, I don’t care too much about my credit score. That score just tells how much someone loves debt. Yes, debt can be used as a tool if used properly, but a credit score is not that important.
Leslie
March 30th, 2011 at 11:46 amI have found that the money in taxes you save by going to an accountant does not always offset the accountant’s fee. But a good accountant is also a teacher and shows you how to manage your finances. For example: from an accountant I found out that it isn’t a good thing to have a tax refund at the end of the year. That just means you gave the IRS an interest free loan.
DonaldTrumpCard
March 30th, 2011 at 6:46 pm“If they put themselves in a hole with debt, that’s their own doing.” I’m gonna rush over to my aunt’s house and tell her this. She needs a wake up call. That chemotherapy she CHOSE to get is her own doing. Silly people and their medical debt. Their fault for not being rich and able to cover it quickly. The nerve of some sick people…
Amber Weinberg
March 30th, 2011 at 9:10 pm@DonaldTrumpCard Don’t be ignorant on purpose. Medical emergencies are OBVIOUSLY different and are the rare exception, not the norm, for credit card debt.
DonaldTrumpCard
March 31st, 2011 at 1:01 am@Amber: I’m glad you believe that, and what you’re saying is exactly my point. I apologize for feeling the need to be deliberately sarcastic in my portrayal, but you’d be surprised how many people who make claims like the line from Brian that I quoted would be fully and truly strict about the application of that belief. In a melodramatic way it was just my means of providing a reminder that not all debt is a person’s own fault, and that sometimes extraneous factors that one cannot fully prevent are partly to blame. Sociological advantages and disadvantages exist for all, and can impact a person’s wealth or misfortunes. In a world with finite resources and money, even honest people who try hard don’t always get to the top of the mountain. And not all people up there had to do as much to get there.
Jocezilla
April 4th, 2011 at 2:35 amIt is probably worth adding that if you are paying off credit card debt, pay off the cards with the highest interest rates first or transfer that debt to a low-interest card and make large monthly payments.
Credit scores do matter if you are trying to buy a house or car. We recently did both and got much better rates due to excellent credit scores.
And finally, save more than you think you need!
Jack Jones
April 18th, 2011 at 6:10 pmI have found that the money in taxes you save by going to an accountant does not always offset the accountant’s fee.
Marta
July 28th, 2011 at 4:40 pmA fair share of people in my family run business or side businesses, so I at least know a good accountant. She’s very strict, by-the-books, and won’t let you fudge or exaggerate anything. She’s definitely a help with the taxes.
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