Freelance Finance

When I first went freelance, I took the advice of a friend who had been doing this longer than I had. As each check came in, she socked away a third (roughly 30 percent) in a separate account intended for taxes. Each quarter, when she needed to pay her estimated taxes, she dipped into the fund. At the end of the year, after she paid the Taxman on April 15th, any money remaining in the account she paid into her savings account.

Like I say, I took her advice. It worked fine the first year. I was amazed at my own discipline. I divided each check into thirds and socked away one third in a separate account, and vowed not to touch it, and I didn’t. I just wasn’t disciplined anywhere else. For example, I didn’t pay estimated taxes; I just slacked off until April 15th. And I didn’t save any other money for myself. The first year, my hidden stupidity didn’t really out. I had more than enough money socked away to pay my state and federal taxes, and my accountant besides. I felt rich, in a way. Like I had somehow saved TOO much money. After that, for some reason, I fell off the wagon. I never diligently saved for taxes again, quietly assuming that whatever the annual sticker shock would be, I would always be able to pay it out of pocket or out of savings. The trouble was, I wasn’t saving. One year I got hit with a $5,000 tax bill. I didn’t have the money. It went on a low-interest credit card instead, and the vicious cycle of debt continued.

What went wrong? How could I go from saving too much money for taxes and then not enough?

I think the answer has something to do with my overall savings goals. Back then, I didn’t know that I should not only be saving for taxes, but for retirement, an emergency fund, medical expenses, and my future dreams as well. My savings plan, in other words, was hazy and unformed. Rather than save for specific goals, I had the vague notion that I should just be…um, saving. Saving for something. What that something was, I wasn’t sure but it had to be important, right?

This is no way to save, and that’s why I failed. Eventually I learned that I needed to articulate my goals, write them down, name my accounts after those goals, and send specific percentages each month to those accounts.

How much should you save for your taxes? That’s a question for you and your accountant. (By the way, if you don’t have an accountant, if you still do your own taxes each year, then you have a fool for a client. You MUST have an accountant so you don’t have to worry about anything other than being as creative as you can be, and saving enough money to pay your taxes. More on this sometime.)

Sit down with the accountant and ask him or her: On average, what percentage of my annual income is going to pay for all of my taxes? Specifically, what am I paying for city, state, federal taxes, and your fee on top of it? He or she should be able to give you an average percentage based on your last three years of tax returns.

This is tricky. Employed folks have it easy in comparison. They know exactly how much money they’re going to earn each year because they know what their salary is, and their employer takes the taxes out of their paycheck before they ever see it. Depending on their income, their taxes may be as low as 15 percent or as high as 33 percent. But because they’re employed, they are probably not itemizing, that is, claiming deductions for specific, business-related expenses. They don’t work from home, so they’re not entitled to various deductions that you might well be. YOUR taxes might be as low as 5 percent. It might be 8, 10 or 15 percent, if you and your accountant play your cards right. Whatever that number is, I would round up to the nearest 0 or 5, and save that percentage out of every check you get from a client.

At the end of each quarter, send an email to your accountant. Tell her how much money you’ve earned in that quarter, and ask her to calculate your estimated taxes. Also ask her to send you the vouchers you’ll need to mail them in. It’s her job to do this for you. If she is unwilling to do this, wants too much money to perform this task, or is too distracted with other things to get back to you, get another accountant. You deserve someone who takes your business seriously.

If you do this regularly, you’ll always have enough to pay your taxes and you’ll reap a few bucks here and there from the interest you’re earning while that money is sitting in your account. If you stay disciplined, the system should work like clockwork. At first, you may be tempted to raid your Tax Fund to pay other bills, or to take scuba lessons. Resist. As your Emergency Fund grows, you’ll always have THAT financial cushion to fall back on if you really need to, without ever touching your Tax Fund.

I told this once to a self-employed person I knew, and she thought I was nuts. Her idea of saving was to save $100 from every check that came in. She never had enough to pay her taxes. In fact, she never had enough money to pay for anything. Going out to lunch with her was a drag. Her problem was that she wasn’t saving according to a percentage of her income. A dry, arbitrary number like $100 per check sounds fine, but it doesn’t go far. She told me that she couldn’t spare 15 percent for taxes every year. She couldn’t spare another 10 percent for savings and retirement. She was freelancer, after all. She wasn’t made of money.

And yet, when she was employed, she routinely had 33 percent of her gross pay lopped from her earnings every freaking week and didn’t think twice about it.

If you’re going to be self-employed, you must pounce as ruthlessly on your paychecks as an employer does. It’s the only way you can survive, and the only way you’ll be able to feed the monkey.