Moving from employment to freelancing doesn’t only require a shift in office locations, but a shift in finances. It’s a risky venture, but an increasing number of Americans are taking the plunge, and for many, it’s paying off.
If you’re considering a freelance career, taking your financial health into consideration every step of the way can help ensure the decision is worth your while.
Some 53 million Americans, or 34% of the workforce, are working as freelancers, according to a new study from the Freelancers Union and Elance-oDesk. They are designers, writers, editors and translators, among other things, and 40% are independent contractors, with freelancing as their main source of income.
For them—and you, should you choose to make the transition—regular paychecks on set days may be a thing of the past. But with nearly 80% of respondents asserting they make as much or more money freelancing than they did before, such changes could be relatively painless with some planning.
1. Know your worth and charge accordingly.
You can scour the Internet to find out what other freelancers in your industry are charging, but your prices shouldn’t be solely based on the industry average. You have to determine your worth, and knowing how much you’ll need to be paid to make the venture worthwhile is a good place to start.
Financial advisor Harry Krampf says prospective freelancers must balance their potential rates with their expenses.
“The first consideration is realistically matching the spending requirements with income expectations,” he tells NerdWallet. “What requirements are there for paying rents and mortgages, auto and other loans, groceries, utilities and all those other components of the monthly budget?”
Keep in mind that as a freelancer, you will be responsible for your own benefits—like health insurance and setting aside money for retirement. You’ll also be responsible for paying taxes. It’s likely you’ll be charging more per hour now than you ever made while salaried, so don’t be intimidated to set your prices accordingly.
While you’ll want your prices to be competitive, you don’t want to go so low that you can’t sustain your new venture and find yourself back in the traditional workforce to make ends meet. When determining how much to charge, remember: Good clients know they get what they pay for.
2. Use contracts.
Nearly every freelancer has a nightmare story about being stiffed by a client. Creating a contract for each new job can help protect you in the case of nonpayment or a dispute. If you’re a writer selling a single story to a large and reputable publication, a contract likely isn’t necessary. But when you work with someone for the first time, using a contract shows that you’re a serious professional, not some fly-by-night operation.
Your contracts should include the scope of the project, a timeline for completion and payment details, at the bare minimum. There are numerous templates and ideas online that can help you craft a good contract. The Freelancers Union has a tool to build job-specific contracts, complete with a disputes clause that can protect you should problems arise.
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3. Require a deposit from new clients and on large projects.
You may be a trusting person, and perhaps all of your clients are trustworthy, but deposits aren’t personal. Requiring a deposit, much like requiring a contract, frames the entire gig. It helps ensure you’ll be paid for your work and gives you a little bread in the meantime.
Requiring a deposit is especially important with new clients and with large projects. As with your rates, how much you charge on a deposit should be gauged by your own financial needs and the specifics of the arrangement. Anywhere between 20% and 50% is standard.
4.Keep a cushion in your checking account.
When you freelance, your income is just another bill to your clients. The sooner you realize this and the sooner you accept the periods of feast and famine often present in self-employment, the sooner you will see the need to have a cushion in your bank account and an emergency fund.
If you’re like the 47% of freelancers who are the primary breadwinners in their household, you have others depending on your income and your ability to provide.
Ideally, clients will pay you as soon as they are invoiced, but when you have utility bills being automatically drafted from your checking account or car payments due at the same time every month, it is prudent to prepare for the occasional (or frequent) late payments.
5. Be diligent about tracking expenses and payments.
Perhaps one of the biggest responsibilities when you move from employment to freelancing is preparing for tax time. When your taxes are automatically deducted from your paycheck, it’s easy to forget about them. But when you freelance and end up owing the IRS thousands of dollars at the end of the tax year, it can be a real wake-up call.
Educate yourself on the self-employment tax. “For wage earners who become 1099 contractors, it often comes as a shock that they become responsible not only for payment of the employee side of their Social Security and Medicare taxes on their earned income, but also for the employer’s side of these taxes, doubling that amount to 15.3% of earned income,” says Krampf. “And that’s before paying the federal and state taxes.”
You can lower your tax liability by maximizing deductions. Business expenses can be a major source of deductions, but you must track them throughout the year. Because you can also write off the expense of hiring an accountant, many freelancers find the cost of working with a tax professional to be more than worthwhile.
Perhaps you want to freelance because of the flexibility, the chance to be your own boss or the opportunity to change your professional trajectory. However, with this new freedom come new responsibilities. Preparing financially for these changes will help ensure your success.
Freelancer image via Shutterstock.