Finances for the Freelancer
Budgeting and financial planning are great ideas, but how in the
world do you budget or plan when you don't know from one month
to the next how much money you're going to earn? You have months
at a time when you earn very little money, and then during the
prosperous months you're busy playing financial catch-up – and
then comes another tough time.
It's a difficult situation, but there are ways to approach the
problem that, over time, will provide some stability for your
finances.
The first trick is finding out how much it actually costs you
each month to live; chances are it costs more than you think it
does. Add up all your expenses – food, gas for the car, rent or
mortgage payment, utilities, car payments, car and health
insurance, and so on. Don't forget periodic payments like
license renewals and car registrations, birthday and holiday
gifts and cards, Lotto tickets – anything that costs you money.
A good exercise is to carry a small notepad around with you for
a couple months and keep track of everything – I mean every
penny – you spend. Allow yourself a certain amount for
entertainment; if you put yourself on such a strict budget you
can't enjoy yourself you won't maintain it.
Once you've decided what it costs you to live each month, that's
what you live on. Open bank accounts for each broad category -
monthly expenses, weekly expenses, and so on – and then deposit
the amount of money you need per month into the appropriate
accounts as the money comes in. Separating monthly from daily
expenses actually frees you up; if you know you've got money
stashed safely away for the rent, heat, etc., and you see a pair
of shoes or a book you really want, just check out your daily
expenses account; you may find that if you eat rice and beans
for a few days you can spring for the impulse buy without
wrecking your budget. Just don't, under any circumstances, raid
the monthly expenses account!
If you have a month where you earn more than you need to spend
based on your budget, put the extra into an interest-bearing
savings account until you need it during the next low income
period. Don't blow the extra on a luxury item, at least not
until you've built up a substantial financial cushion.
The conventional wisdom is that if you have credit card debt,
you should pay it off before you start saving money. On paper,
that looks good; you're going to save a lot more in interest
payments if you eliminate your credit card debt than you'll be
earning in a conventional savings account. But you need to take
into account your uncertain financial circumstances and your own
human nature. Having a month or two of living expenses in the
bank can do an amazing job of calming one's nerves, and can
preclude the need for charging more money on your credit cards.
Here's a good approach: stop charging on credit cards, period.
Unless you have a necessary expense that you can't pay any other
way, don't charge it! (Those kicky shoes aren't a necessity
unless you're barefoot.) Pay cash, or don't buy whatever it is
you wanted to buy. Do your utmost to accumulate one to two
months' living expenses in a savings account, to be used during
slow months, and then start paying down your credit cards,
getting rid of the balance with the highest interest rate first.
One exception – if you've got some cards with big balances and
one or two that have a hundred dollars or so on them, and you
can pay the little ones off in one fell swoop, do it! The
psychological boost you get from getting rid of one credit card
balance is worth what little extra interest you'll pay by
delaying paying the high balance card for a month. Once you pay
off each credit card, cut it up, don't use it – but keep the
account open. You've just improved your debt to available credit
ratio!
And finally, we get to taxes. Freelancers really get socked;
they have to pay regular income taxes plus self-employment taxes
- their own and the employer's share of social security and
Medicare taxes. Currently the self-employment tax is 15.3
percent. The best thing to do is to stash 20 to 25 percent of
your income in a “tax account” as you receive it, and pay your
quarterly estimated taxes as they are due; but you may not be
able to do that, at least not initially.
Make sure you claim all the business expenses you can
legitimately claim; your self-employment tax is figured on net
profit after expenses, so the more you can get that profit
figure down, the less your self-employment tax is going to be.
There are penalties for not paying enough tax – in 2004 if you
owed over $1000 at the end of the year, you could be fined a
penalty, unless you could demonstrate that your income was
unpredictable during the course of the year. (You can do that,
right? A hint -update your income and expense records regularly.)
If you get to April 15 and you can't pay up, the IRS will allow
you to file certain forms and set up an installment payment
account; they charge you penalties and fees, but they're not
substantial, and this is a good alternative if you can't cough
up the cash; and it's better than putting it on a
high-interest-rate charge card. By law, the IRS can't turn you
down for the installment plan.
Over time, you'll be able to budget for living expenses and
taxes and put yourself on a pay-as-you-go schedule. Building this sound financial
foundation is the first step toward prosperity!
About the author:
Aldene Fredenburg is a freelance writer living in southwestern
New Hampshire and frequently contributes to Tips and
Topics. She has published numerous articles in local and
regional publications on a wide range of topics, including
business, education, the arts, and local events. Her feature
articles include an interview with independent documentary
filmmaker Ken Burns and a featur
Written by: Aldene Fredenburg