How to Save: A Short Guide for Freelancers
This post is the first half of our two-author, two-part series on smart saving.
Many Freelance Switch readers are probably aspiring professional freelancers with a day job. Shama Hyder earlier provided 5 steps for switching from side gig to full time. There’s one really important step that Shama alluded to and that I’d like to expand on: savings.
Before you jump into full-time professional freelancing, you want savings. (Read further below for an explanation why, beyond the obvious.) Do not venture into full-time freelancing without savings.
General Savings Tips
- Save for the future.
Don’t save for next week, next month, or later this year. Lean periods in freelancing careers can and do ruin marriages and family relationships. Think like a business owner, not like one person constantly looking for freelance work. Use longer-term investments such as bonds or blue chip stocks (that you’ve researched well). - Use liquid investments.
Put most of your “will need it soon” money into liquid investments such as an online savings account (OSA) or possibly some mutual funds. Do your research before investing in either. Some OSAs and funds have ridiculous front- and backend fees, as well as penalties for early withdrawal. If you end up with one of these, you’d have been better of keeping your cash in a cookie tin! - Have an emergency fund.
Determine what consitutes an emergency, how much you can afford to keep, and then keep it somewhere that’s easy to get at (i.e., liquid investments.) - Keep taxes separate.
If at all possible, have a separate bank account for the taxes (income, property) you will be paying. - Do automatic withdrawals.
Whether for debt payments, setting aside taxes, investing, or long-term savings, automatic withdrawals enforce a schedule and reduce the time you spend on personal finances – an activity most people seem to despise but need to do anyway. - Use secure Internet connections.
Don’t do online banking or PayPal transactions over public Wi-Fi access. Should be obvious, but in case you need a reminder. - Pay yourself.
Even if it’s only a small amount weekly, bi-weekly, or monthly, pay yourself out of freelance earnings. This forces you to keep your fingers out of your business funds, makes accounting easier, and ensures that you don’t build resentment towards working. It’s important to mentally separate work and business funds. - Keep a financial spreadsheet.
In addition to keeping ALL your receipts (for possible deductions), make a habit of keep an Expenses and Savings log book updated regularly (daily, weekly). You could do this in a print log book, but also keeping a spreadsheet means being able to file taxes more easily. You can “see” your expenses collectively, which might give you clues as to where you’re spending too much. There are all kinds of free web-based spreadsheets (such as Google Spreadsheet and Zoho Sheet), or if that makes you uncomfortable, the desktop based Open Office, which is like MS Office but free.
Types of Savings
I’ve broken down savings into five types, below. You won’t necessarily need five different bank or online accounts, but you need to mentally separate the funds, and keep them separate.
1. Operating Capital
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This is what you need to keep your freelance business running smoothly and your personal finances covered. Costs to cover, as applicable.
- Day to day items such as office supplies.
- Less regular but necessary business expenses, such as equipment (computers, printers, mobile devices).
- Car expenses: gasoline, parking, car payment, potential maintenance.
- Clothing allowance and laundry costs. That is, if you don’t have an in-home washer and dryer.
- Rent, heat, hydro.
- Groceries and meals.
- Hygiene items – especially if you work offline
- Phone costs. (You can probably deduct some of this. Make it easier by using a dedicated phone or cell phone for business.)
- Internet costs: access, hosting, domain names.
- Health and property insurance. Also, business insurance, if your clients require it.
- Any other monthly debt payments for “necessary” items.
Add up these and any other “necessities” for one month, then multiply by 6. Six months operating capital is the minimum recommended to have on hand. But if you have other people relying on you financially, I’d recommend at least another 2-3 months.
I say this from hard experience – operating capital is crucial to success as a freelancer. It is a business. Things might seem rosy when you make the switch to full-time professional, when all kinds of new contracts come in, but downturns are commonplace for freelancers. If you can’t weather those downturns with savings, freelancing will be a rough life that will make you miserable.
2. Emergency Funds
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These funds are much harder to define and to size up. The amounts you keep for emergencies depend on your circumstances and even the country you live in. For example, when it comes to health, Canadians are on average a bit better covered than Americans. Hospital and surgery costs can climb into the thousands, unless you have a good health insurance plan, which is something that a lot of freelancers neglect.
Other “sources of need” for emergency funds are old cars that break down or go kaput, relatives out of work, illness in general. I’m sure you can think up more. Sitting on your ass at home all day freelancing can cause a variety of illnesses, and if you’re too busy to be active, you’d better make financial allowances for healthcare.
3. Taxes
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Every time a client pays you, approximate your income tax rate, apply it to determine what you might owe (before deductions), and immediately set these funds aside. If you can’t/don’t want to keep them in a separate bank account, then keep very good tabs on the totals – such as with a spreadsheet – and do not dip into these funds. If you do not have to pay quarterly installments, then you might consider putting this money into an online savings account, which give the highest savings interest rates at present. Do not put these funds into mutual funds or other semi-risky or risky investments.
If you have a mortgage, you will owe regular city property taxes. Set aside tax funds for this purpose as well. Unless you have an overwhelming reason not to do so, you can use the same account as you do for your income taxes.
Even if you cannot claim enough deductions to reduce your taxes, you can at least earn some interest on the amounts – which likely won’t happen if you stuff them in a regular bank account.
4. Long-term and Retirement Savings
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Dr. Andrew Weill was on PBS recently and said that some scientists believe that we humans might achieve ages of 1,000 years, and that this could happen in our lifetimes. Dr. Weill doesn’t believe that himself (if I understood correctly) and neither do I. Though I do believe 100 might become more commonplace. (My own father is nearly 80 and he used to think he’d be like his immediate relatives, who all passed away before 45, or even younger.)
However, if this Methuselah factor is true, then in any society that thinks 65 is old and doesn’t respect the elderly and/or give them work opportunities, freelancers especially need to save for the long-term. Thinking of your mortality is never easy, but it’s a necessity. If you do stay healthy after retirement, you will probably want to do more than sit at home or garden, and it will take funds. Your savings, plus compound interest, will have to take care of the general cost of living decades from now, plus any activities you’d like to enjoy. However, if you wait to start a long-term fund, you lose out on a lot of the power of compound interest.
5. Play Funds
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You know the old saying: “All work and no play makes Johnny a dull boy.” It applies to both sexes, but goes beyond just being dull. Humans are social creatures, and not allowing yourself to “play” once in a while affects emotional, mental, and physical health. You simply cannot work non-stop and not accumulate negative effects upon your health.
Decide what you can afford, based on earnings, for non-work activities – even it’s a couple of movies each weekend with someone, a dinner out, or a vacation.
The Emotional Benefits of Saving
If you’re an offline freelancer (and sometimes online), there’s something else you might have to contend with, if you go full-time: jealousy. My experience is that even when you’re not after the job of the employee of a client, some people will want to think you are. They’ll also think that you’re making lots more money than they are, and that they should have your job. (I’ve earned far less overall in my career as a freelancer than I would have as a full-time salaried employee doing similar work. There have been long periods of no work. I just happen to like the variety and freedom of being a freelancer.) They can and will make your life miserable – especially if you have the audacity to ask questions, even if it’s your job to do so.
If you’re a hot-headed, passionate but hard-working person, that kind of response can get to you emotionally, affecting your prospects and ultimately your finances. This in turn can drive you to a state of mind where you seem desperate basically because you are. Which almost guarantees you won’t get work when you need it most.
On the flipside, being nonchalant is far more likely to ensure you’ll get the contracts you apply for (assuming you’re qualified). The best thing you can do for your freelancing career is to save up the funds that allow you to automatically be in a nonchalant state of mind. When you’re not worrying about how you’ll pay the bills this month, you won’t come across desperate, and you might even exude quiet confidence – the key to getting contracts and building up even more savings.
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These are all great points. One thing I would like to add is working as a freelancer or even as a studio, auto-withdrawal can be a vary bad thing. That starts a snowball effect, that makes it harder and harder to get a handle on. I run a studio and it is the hardest but best thing I have ever done(never been happier in my life). Thing get cough up in the mail, or something happens to your client and it takes a couple of extra days to get paid. Sometimes you just get to busy and forget about something, and before you know you have 5 overdraft fees just because of something so small.
Organization is the key to staying on top of it all. If you just do some of the things listed above and stay organized. life will be so much better. One thing I do to help myself and my business stay on top is spend the first couple of hours a day following up on thing(e-mail, bill paying, and invoicing, looking for new leads).
I know this dose not have that much to do with saving, but it will help you meet your goals and make it easer to save.
Saving is crucial–no one ever likes to be stressed during bill time! Take your next big check and put it away to start. Helps ease your stress!
Solid advice. I’ve found that it also helps to keep track of every single expense, no matter how small. It illustrates just how much those little treats–”just one cup of coffee”–add up.
And those who give to charities, churches or other religious organizations need to factor that into “operating costs” as well. It’s a cut out of the monthly budget, but it is deductible in America if you hang on to the receipts and “proof of donation” letters.
It’s also important to be flexible and track your budget over a number of months to truly know how much on average you’re going to need if you’re going to let go of the day job, which, of course, is the scariest thing about it. Our budget has been totally upended by the spike in fuel and food prices, and we had to cancel a drive to a family wedding this summer, as well as a cheap little first anniversary overnight at a mountain lodge
No fun, but it’s better than worrying about whether or not we’re going to keep afloat.
Instead, we hunkered down, got creative, and agreed to listen to a time-share spiel in exchange for tickets to a nearby theme park. Better than nothing–and at least we have a roof over our head, food in the pantry, and reliable transportation. And alcohol. That’s the important thing.
Great post. I’m printing it out now!
Nice one!
More of these types of posts, please.
I would like to add a few things to this great post. First off, you implied this but I’d like to explicitly say, “keep your business and personal finances separate, in separate bank accounts.” I track the income and expenses for the business itself, and my wife and I manage our personal expenses just like we did when I was drawing a regular paycheck. (Actaully, I still am drawing a regular paycheck – the business pays me a set amount every week through automatic withdrawals.) This also makes tax time much easier.
Second, Quicken has a feature that I’d used to put money away for taxes and such without actually having separate accounts – savings goals. I know that’s not what it’s intended for, but I found it quite a nice way to “save” away money without it showing up in the account balance and without creating new bank accounts. One can even set up “automatic withdrawals” to these pseudo-accounts internal to Quicken. (I’ve since switched to MS Money and really miss that feature.)
Lastly, my story: before quitting my full-time job, I took 100% of the business’ profit and saved it away for future operating capital, other than paying myself back for the initial investment. Only after I had enough capital and a couple of regular clients did I make the move to completely self-employed. This strategy may not work for everyone, but it worked quite well for me.
I’ve been self employed for most of my working career. Some of the best tips I’ve received have been:
* Be consistent about saving. Ideally you should be saving at least 10% of your net a month. But if you can’t do that right away, start with baby steps and work up from there. Start with 1%, and then go to 2%, etc.
* Keep all receipts and track your expenses.
* Everyone has peaks and valleys so pay yourself off of an average of the minimum you receive per month.
* An awesome . . . and I mean absolutely amazing . . . budget spreadsheet is Pear Budget (www.pearbudget.com). Originally it was a Excel file, which is what I use. I see that they have now switched to offering it as a web based application.
James T: You’re right. I have run into problems with auto-withdrawal. You have to balance use of it with your comfort factor. I don’t like it for bills, but sometimes you have no choice. I am a lot more careful about my expenses.
Mary Beth: It’s hard but, yes, track every single expense. I have to force myself because it’s so tedious.
Jeff K: Ah, very clever. If you have a foolproof way to keep business and personal finances separate without two bank accounts, excellent.
Carla: Thanks for the extra tips.
Everyone: Thanks for the comments. It’s nice to see what works for other freelancers.
@Raj – Actually, I do have separate bank accounts for persoanl and business purposes. I need to for legal reasons because of how my business is registered, and the business account is open under its own name.
What I didn’t need was separate bank accounts to put money away for infrequest expenses. “Savings goals” work well to “pay” every month for income taxes, real estate taxes, insurance premiums, etc.: those big expenses that are not normally a part of your regular spending routine, but will hurt you if you’re not prepared to pay them when they become due.
A line of credit is your best friend. Even a fairly small line of $5-20,000 can make the ups and downs of freelance work so much easier to handle. I got one through my credit union. If you link it to your checking account you’ll never have to worry about an overdraft fee again.
Indispensable guide to freelance finance! Quite often a headache for most writers unfamiliar with accounting and investment markets. A trackback is definitely in order!
Good article! I’ve always operated with enough savings to have what’s commonly called “f-you” money. That is, never, ever be desperate for a job, and always have enough stability that in the extremely unlikely yet possible event that a client turns out not to be right for you it doesn’t end up being a bad situation if you have to walk away from the gig.