I Quit My Job 4 Years Ago. Here’s What I Learned About Managing Money As A Freelancer

Melanie Lockert
October 31, 2018

In July 2014, I did what a lot of people only dream of: I quit my full-time nonprofit job to become self-employed as a freelance writer and event planner. I still had debt at the time which was scary enough but I was confident I could earn more and pay off debt (and I did!). But actually managing money as a freelancer was tougher than I thought.

Here’s what I learned.

1. Undercharging hurts more than it helps

When you’re just starting out you want to get new clients. You think being the cheapest option around is what will get you clients and help build your business. The first part might be true but giving away your products or services at a severe discount can hurt you in the long run.

First of all, it’s hard to scale up. When I finally realized I wasn’t really charging enough to actually maintain a business, I realized I had to more than double my prices. Not many clients will stick around with you when you do that, so I had to totally re-configure my client list and start over, looking for clients who could pay the rate I actually deserved.

Secondly, when you charge a low rate, people can consciously and unconsciously think of your quality as low. Do you see Chanel lowering their prices? I think not. Being self-employed comes with a whole host of additional expenses so charging what you’re worth and adding tax can help you actually stay in business and not feverishly work more in order to get by.

2. Hourly rates are not your friend

In the workforce, hourly rates are common. In the world of self-employment, I think they are a bad idea. First of all, it can be very tough to appropriately figure out your hourly rate. Secondly, hourly rates punish you for being efficient.

If you are good at what you do and can finish something in an hour, you are making less money than if you were not as good and took more time. Price on value and project, not on hours. People aren’t buying your time, they’re buying your value and your service.

3. You need a larger emergency fund

Common personal finance advice states that you should have an emergency fund of three to six months worth of expenses. If you’re self-employed, your emergency fund needs to be larger. Think closer to six to twelve months worth of expenses.

You don’t have the regularity of a consistent paycheck. Cash flow can be tricky. You want to prepare for slow seasons and other instances when you may be unable to work. If you’re a service-based business owner like me, if you don’t work, you don’t get paid.

So if something happens where I am unable to work, I see a direct correlation in my finances. In fact, last year was a tough year of transition for me. I dealt with physical health issues, mental health issues, and a breakup after nine years. I was unable to work at the scale I used to and my income went down. I didn’t freak out and have added stress to my already stressful situation because I had more saved in my emergency fund.

4. It’s crucial to save more for taxes

Talk to any self-employed person and one major gripe is paying taxes. As a self-employed person, you pay taxes quarterly, which is already no picnic. On top of that, you pay more in taxes. You pay the self-employment tax which is 15.3 percent because you are lucky enough to be the boss and the employee (when you have a nine to five, your employer pays half).

When I first quit, I didn’t have an accountant. I was fumbling along not really knowing how much to set aside for taxes. As my business grew, I kept saving the same amount for taxes. So when tax time came, I owed close to $10,000. I didn’t realize I catapulted to a new tax bracket!

I had just finished paying off my $81,000 in student loans six months earlier and had just rebuilt my emergency savings. In one fell swoop, it was wiped out as I couldn’t bear to go into tax debt.

I learned my lesson big time and now I save close to 50 percent for taxes. You read that right. Given the self-employment tax, and high income tax rate in California, and my tax bracket, it’s what makes sense so that I never under-save for taxes again.

5. Payments fluctuate

As an employee, you know exactly how much you will earn and when. Being self-employed means everything is up in the air.

You might have different rates for different projects and different clients. You might get paid within net 30 or net 45. Work can be feast or famine. Sometimes you have to send polite follow-up emails about payment. Sometimes you have to send increasingly firm emails for the third time about payment.

There’s nothing consistent about getting paid as a freelancer and it can require a lot of follow-up time, which surprise, is unpaid!

6. Don’t spend money just to write it off

One of the good things about being self-employed is that you can write off a lot of things as a business expense. But that doesn’t mean you should spend unnecessarily just because you can write it off.

Spending $100 on a business expense to save some money on taxes is not the same as just pocketing and saving $100.

Make sure to not use this as a justification to go wild with the expenses. Having money in your bank account is always better than saving a little on taxes.

7. Do write off what you can

On the other hand, do write off what you can. I remember when I first started out I was very wishy-washy and unsure about what I could write off or not. I think I left out a lot of expenses I could have technically written off just because I was unsure what was a business expense. Getting an accountant to help me navigate all this stuff was a great investment!

8. Fund your own benefits

Aside from having a robust emergency fund, you also want to save for your own benefits. It’s not fun but can help ease your stress. The first time I went on vacation as a freelancer I was so worried about money. When I got sick the first time, I was so worried about money.

I realized then that I had to fund my own benefits. So I opened savings accounts for “Sick” for “Vacation” and started putting money aside every time I got paid. That way when I did get sick or wanted to go on vacation, I could do so and still have money and not be clamoring for work.

Additionally, you’ll want to save for your own retirement too. Luckily, using a vehicle like a SEP IRA may help reduce your tax liability while saving for your future.

Bottom line

Being self-employed is a dream for many but it’s so much harder than it looks. And to be frank, a lot of the money management is difficult, tedious, and annoying. But learn from my mistakes if you want to be your own boss so you can enjoy the perks of self-employment without all of the financial headaches.

Melanie Lockert is a personal finance expert, the blogger behind DearDebt.com and author of the book “Dear Debt: A story about breaking up with debt.” Melanie paid off $81,000 of debt and is now on a mission to help others do the same.

Feature Illustration: Laura Caseley For The Money Manual