Five Money Mistakes Freelancers Make

For tax season, I’m running some of my older posts pertaining to our book, The Money Book for Freelancers.*

This was supposed to be the year you got your financial house in order. Get more organized. Earn more. Spend less. And reach unparalleled heights in your career.

If only you knew where to start.

We’d like to suggest that if you do anything, nip these five bad habits in the bud now, so you never have to worry about them again. We consider them to be the five primo mistakes all self-employed people make. If you correct them before they become long-term engrained problems, you’ll be in good shape to move forward with most of your financial goals.

Heck, you might even be able to skip the financial resolutions next year, and go right to the fun ones, like, “I resolve to vacation more, and never worry about money again.”

Mistake #1: Not Having an Emergency Fund

Everyone should have a stash of cash set aside in case of unexpected financial disasters and interrupted income. In fact, we’d argue that freelancers need this fund even more than traditionally employed people do, because their income is a lot more erratic. Even if you’re a crackerjack freelancer, with tons of work coming in and invoices constantly flying out the door, there are still going to be dry spells. When that happens, it would be nice to have some money set aside to dip into.

But alas, few freelancers make a habit of socking away money regularly in such an account. Don’t let that be you. It doesn’t have to be a great deal of money. Five percent from every check that comes in the door is a good amount to save, and you’ll hardly ever notice it’s missing. Just make sure the money is deposited into a bank account that is not linked to an ATM card, so you can’t raid it on a lark. And see to it that the money is kept “liquid”—not linked to important investments or burdened with any withdrawal restrictions. A checking account at an online bank is the perfect place for the cash. Just an arm’s distance away, but close enough to tap into if need it. How much should you save? Start with one month’s living expenses, and then see if you can push it to three or six.

Mistake #2: Not Saving for Taxes

One of the blessings—and curses—of being self-employed is not having an employer who withholds your taxes from every paycheck you receive. When you bill a client, you bill for the whole enchilada. And when you get paid, you get the whole enchilada too. The trouble is, when tax time comes around, that tasty treat has long been gobbled up. Make sure you’ve left enough of that enchilada to give the tax man the taste he needs.

The worst time to start thinking about your taxes is weeks or even days before you have to pay them. Ideally, you want to be socking away money throughout the year, a little out of every single check that comes in the door. That way, you can slowly save up a tax nest egg. Not sure how much to take out? Not a problem. Look at your tax documents from the last two or three years, and calculate about how much you have been paying the tax man, expressed as a percentage of your total income. Start saving that percentage out of every paycheck. This number varies wildly from freelancer to freelancer, so mind your own business—not someone else’s.

Mistake #3: Not Paying Estimated Taxes

What good is saving that tax money if you don’t use it to pay The Man? In our research we discovered that accountants meet plenty of well-intentioned yet sad freelancers who do not pay their estimated taxes during the year, and who then feel doubly screwed when they have to settle up at year’s end. We’ve never understood this mentality: Would you rather pay $1,250 four times a year, or be forced to come up with $5,000 (and penalties and interest) in one lump sum once a year?

It’s a no-brainer: Paying in small, manageable chunks really makes a difference. It’s easier on your pocket, and you are less likely to blow that tax money on a spur-of-the-moment vacation to the Bahamas if you pay your taxes on a quarterly basis. If you develop the good habit of saving for your taxes, then you should develop the equally good habit of disbursing those funds in a timely fashion throughout the year. A good accountant or tax preparer should be able to help you with this.

Mistake #4: Not Treating Yourself Like a Business

Even if you are a company of one, you are a business. That means organizing your finances as any responsible business would. If you are not already, begin tracking income and expenses down to the penny. Receipts are your friend—never let them slip away. Financial software programs—such as Quicken or mint.com—can take some of the pain out of this chore and help make tax time a cinch. If you need to send and track invoices, manage clients, and do time-tracking, use something like FreshBooks or QuickBooks. 

And that’s just for starters. You must cultivate an interest in all things business. You must have business cards. You must have a website. You must develop a system for receiving and returning phone calls in a timely fashion. You must have a logo and stationery. You must have a retirement account. You must develop a process that keeps you connected to the rest of the business world, and you must execute it flawlessly in all your dealings with others.

Amazingly, this is hard for a lot of people to do. “I’m a website designer,” they say. Or, “I write software. I don’t want to be bothered learning about business. I don’t want to learn about investments or credit card accounts or invoicing. It’s boring.” Okay, fine. Just understand that if you don’t want to deal with these little details, if you can’t get psyched about this geeky stuff, you must hire someone to help take care of it for you. And don’t let us catch you bitching about it, either. If you don’t want to do it, you must be willing to pay for it. Your business won’t take care of itself.

Mistake #5: Living for the Big Score

A financial planner we interviewed told us that all self-employed people, including himself, are dreamers. They throw themselves into their work, trying to achieve their great vision, and forget about socking away small amounts of money for themselves along the way. Some people, if they do get money, stick it back in the business. “Once I land this big project, sell this book, launch this product, or share my great invention with the world,” they tell themselves, “THEN I’ll have so much money that I’ll be able to finally save for retirement.”

Folks, this is crazy talk. This is how cat burglars think: They live their lives as if waiting for the big score, which never freaking materializes. So do this today: Start saving a little from each paycheck for your retirement. It doesn’t have to be very much. Just let it be something. If you must trick yourself, pay a little extra to your emergency fund and then redistribute from that to a dedicated retirement account. We all think we’re going to live forever but that is not true. Time flies, and you may not have the time you think you have to build up a substantial nest egg. “I’ve a great life and a great career,” a ruggedly handsome, athletic-looking designer told us at a book fair recently. “I have tons of clients and I’m never without work. The problem is, I’m fifty-five and I don’t have anything set aside for retirement.” That’s a problem. Learn from this gent’s mistake. Start saving for retirement today, and let today mean today.

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* This post first appeared in slightly different form on the FreshBooks blog on January 12, 2011.

Yes, I am trying to post here more often. Thank you for noticing. If you want to sign up for my newsletter and claim your free ebook, go here. Thanks — Joseph D’Agnese

The four, no, SIX bank accounts every freelancer needs

For tax season, I’m running some posts from my old blog pertaining to our book, The Money Book for Freelancers.*

The problems that arise with money and the freelance life are often ones of organization. If you set up your financial accounts properly, your financial goals will be right in front of you every time you check your finances. The way I see it, every independent worker (i.e., sole proprietor) should have at least FOUR bank accounts. I’m just talking about US workers right now.

1. The Spending/Bill-paying Account: The account into which you deposit every check you receive.

2. The Emergency Account: Contains 3 to 6 months of living expenses, if you can swing it.

3. The Tax Account: Collects the money you need to pay your estimated and annual taxes.

4. The Retirement Account: Collects the money you want to contribute to your retirement until you have enough to start investing.

I consider these accounts to be the minimum you must have to run a successful freelance business. Later, when you’re ready to advance, I’d consider adding two more accounts:

5. The Medical Account: Collects money for health insurance premiums, Health Savings Accounts (HSAs), and so on.

6. The Dream Account: Collects money for your future dreams: a house, an apartment, a car, a business, or for your as-yet-unborn children.

This is pretty much the advice we offer in The Money Book for Freelancers. You might think that keeping so many separate accounts is unnecessarily complicated. But we’ve found that if you don’t have a separate place to keep money earmarked for Retirement, say, you won’t save for retirement. You’ll find other, equally important things to spend that money on before you have a chance to save it. The same goes for the tax and emergency accounts. If you don’t consistently save money to pay your estimated and annual taxes, you’ll end up scrambling each quarter or as each April 15th approaches to find the money to cover your tax bill. So separate is smart.

Nearly every bank has some kind of online presence these days, but we like ones primarily based online—such as Ally or Capital One 360—for a couple of reasons:

• Most online banks offer better interest rates than brick-and-mortar banks.

• Most allow you to open a new account at will at any time, so you don’t have to bother making time to visit a physical bank and to talk to a flesh-and-blood bank officer.

• Most allow you to apply a nickname to your accounts.

Little things make a big difference. Imagine logging on to your list of online accounts and seeing them in front of you with nicknames such as “My Rainy Day Account,” “My Waitin’ For the Taxman Account,” “My To-Be-Invested Retirement Account.” Names like this are focused on your specific needs, and far more personal than a list of account numbers that are virtually indistinguishable from each other.

Back in the day, we used to recommend keeping a local bank because it was still necessary to have an institution where you could drop by to deposit a physical check. Back then, the only way to get money into an online bank account was to transfer it from your local bank, or to mail in a paper check, which took daaaaaaaaays. Now almost all these online banks have an app that allows you to scan or photograph your check and deposit it in a flash.

How much should your save from every check? That’s a question for another day. For now, start investigating some good online savings banks at Bankrate.com. You will want a personal checking account for the spending/bill-paying account, and a savings account for the other accounts. US banking rules govern limit your withdrawals or checks you can write out of a savings account to 6 per month, but typically the interest on those savings accounts will be higher than your checking account.

Some savings accounts have an ATM card option, but it’s best to decline ones that do. The more obstacles you can put in your way, the less likely you’ll be to raid those accounts when emergencies occur.

Always check the interest rates. Historically online banks offered better terms than brick-and-mortar banks, but that’s not always the case.

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* This post first appeared on my old blog August 30, 2006.

Yes, I am trying to post here more often. Thank you for noticing. If you want to sign up for my newsletter and claim your free ebook, go here.