Monday, 13 March 2017
One of the biggest challenges of being self-employed is managing cash flow. Not only does work ebb and flow, but clients can be slow to pay.
So at times, you may be flush with cash — while other months, you may be just barely afloat. How do you create a budget when your income is so uncertain? We spoke with a few entrepreneurs about how they manage their money. Here are their top six budgeting strategies:
Every budget needs to take into paying off debt and regular and expected expenses. Whether you're employed full-time or self-employed, setting aside money for unexpected expenses or situations — such as the loss of a job or a big client — is important. The use of a reserve fund — also popularly referred to as an emergency fund — helps smooth out tough financial situations and prevents the use of high interest debt, such as credit cards, in times of financial stress.
For the self-employed, though, it's particular critical to create a "reserve fund," a pool of money that you can draw upon during the cash crunch, says Barry Maher, a California-based management consultant and author of Filling the Glass: The Skeptic's Guide to Positive Thinking in Business. "Ideally you should have that even before you begin working for yourself. You'll probably draw it down while getting the business established, but building it up again and keeping it at least that high should be a priority. It will help you sleep a lot better at night."
You might not be able to put aside six months of funds right away, but Maher suggests that you work towards building that savings. For starters, consider dedicating a set amount of percentage of monthly income to the fund. Have it automatically deducted from your bank account monthly, so that you stay on task.
The cliche that "time is money" is especially true for small business owners. Are you making the best use of your time? Could you be hiring freelancers who could handle those tasks while you focused on higher-impact tasks?
"Many entrepreneurs burn themselves out in the first year trying to do everything themselves," says Annette Penney, an Ontario, Canada-based online marketing consultant. "Yet we all know that in an effort to grow, eventually we need to delegate."
Penney says she was cautious about hiring, adding only part-timers at first. But she learned very quickly that the hiring paid off. "Their contributions meant that I could focus on growing the business instead of just working in the business. Then as my business grew, I could afford to increase my budget for staffing."
A classic mistake that many freelancers make is underselling themselves. They're so eager to get work that they set their hourly rates too low. Look at your service as a product within a market. Think carefully about what makes your services different from competitors, emphasize that difference, and find a market that's willing to pay higher prices for your fees.
Furthermore, don't feel bashful to raise your fees as you gain more experience. As a freelance writer, I've steadily increased my fees over the years. I've found that in doing so, I've attracted better clients while also giving myself more time to focus on quality, rather than needing to churn out quick posts at lower pay grades.
Lastly, consider your billing schedule and try to bill in installments, rather than at the end of service to help normalize your income.
"Ask for deposits and payments throughout the course of the work. Don't put all your payment at the end of the job," says Gary C. Wolf, a home improvement contractor based in Fleetwood, PA who has been self-employed for 17 years.
Billing more frequently will help keep you from falling into one of those cash flow nightmares, when you have to draw your reserve fund or max out credit cards to pay the bills. A three-month job with just one final payment can be reworked to having three monthly payments, for example, to smooth income over the period of work.
When you were a full-time employee, your employer withheld money from your paycheck for Social Security and Medicare taxes. But as a self-employed individual, the onus is on you to budget for these taxes. You will face a self-employment tax, which consists of both the Social Security and Medicare taxes that would usually be withheld from your pay if you were a wage earner.
Be aware that your tax bracket also may change once you go solo. "My biggest shock as a self-employed business owner was the change in my tax bracket," says Ramey Becker, a Denver-based communications consultant. "People who have worked for companies all their lives may not realize that freelancers are subject to self-employment tax on top of their income tax. In my case, I went from the 28% tax bracket to 49%."
You may want to consider checking in with a financial adviser to explore your options; for example, in some cases, incorporation or forming an LLC can offer the self-employed tax benefits. But, whether or not you incorporate as an LLC, S Corp or other type of entity, you will still need to pay quarterly taxes in order to stay clear of huge tax bills (and penalties) later.
To make sure Becker has enough to cover taxes, she says she deposits half of every client check into her "tax account."
When you're self-employed, there are no paid, two-week vacations. If you don't work, you don't get paid. As a result, many self-employed people are reluctant to take time off. But that's ultimately a bad idea. Everyone needs to recharge their batteries in order to remain productive.
So plan ahead for a vacation. Take on more pre- and post-vacation work to even out the time away to offset those income losses, says Becker. "It does take a bit of the spontaneity out of it, but that[?]s the reality of working for yourself," she adds.
Do you think you may need to buy a new van? Or are you expecting to need knee surgery and will incur out-of-pocket medical expenses? It's important to factor those big-ticket items into your budget, setting aside money every month, so you're not left scrambling. Says Wolf: "This helps reduce budget shock."
Creating and staying on a budget when you're self-employed is tricky. But if you prepare for the potential pitfalls, you can grow your business and thrive.
The content provided is for informational purposes only. Neither BBVA Compass, nor any of its affiliates, is providing legal, tax, or investment advice. You should consult your legal, tax, or financial advisor about your personal situation. Opinions expressed are those of the author(s) and do not necessarily represent the opinions of BBVA Compass or any of its affiliates.
Links to third party sites are provided for your convenience and do not constitute an endorsement. BBVA Compass does not provide, is not responsible for, and does not guarantee the products, services or overall content available at third party sites. These sites may not have the same privacy, security or accessibility standards.
Some analysts say Millennials are enthusiastic about saving money, but aren't sure where to start. We asked a financial planning expert to help devise a few strategies.
Find out how you can save on food, air travel, hotels, amusement parks, and more with money-saving tips and ideas for spring break and summer family travel.