Making the transition from a full-time employee working for an organization to a self-employed freelancer is nerve-wracking. You’ll abandon the stability your full-time job provides in favor of having more control and autonomy. This is a huge is correlated with higher job satisfaction. When considering freelancing, you should have a solid business plan and financial model to guide you, there’s no reason why you can’t remain profitable indefinitely.
However, it’s unwise to jump into the freelancing world without thinking. Even if you plan on working from home and starting your operation with as little money invested as possible, there are a number of costs you’ll need to consider before considering freelancing.
Commonly Neglected Costs When Considering Freelancing
These are some of the most commonly forgotten costs of running your own freelancing business:
- First, you’ll need somewhere to set up shop. Depending on where you live and how much office space you require, you’ll likely end up paying thousands of dollars a month to lease an office. There are alternative options, of course; many shared workspaces allow you to rent your own space for as little as a few hundred dollars a month. But wait a minute, this is freelancing! Can’t you just work from home? The answer is yes, but there are still costs you’ll have to consider.
- If you’re working from home, you’ll want to have a dedicated home office where you can focus, free from distractions. That means you’ll need to invest in a desk, an ergonomic chair, and other features to maximize your productivity—plus, since you’ll be home a greater percentage of the time, you’ll likely pay higher utility bills.
- If you had health insurance through your full-time employer and you quit to become a freelancer, you’re going to lose that coverage about a month after you quit. You may be tempted to avoid health insurance altogether, crossing your fingers that nothing bad happens to you, but remember—people with health insurance tend to live longer, and the last thing you want is to be stuck with a six-figure medical emergency and no backup plan. Fortunately, freelancers still have access to a number of different plans; the plan you choose will depend on your personal circumstances, and the amount of coverage you wish to seek.
- When considering freelancing, you’ll also need to worry about your equipment. Depending on your line of work, you might be able to get by with just a basic laptop, or you may need a full setup with three high-definition monitors and the best computer money can buy. In any case, you’ll need to invest at least several hundred dollars here, and more likely several thousand. You can skimp here, buying older used equipment, but generally, cheaper equipment underperforms; it’s usually worth the extra money to make an upgrade.
- You won’t realize how much office supplies cost until you’re the one actually buying them. Without a full-time employer, you’re the one that’s going to be fronting the costs for pens, paper, folders, and other supplies you need to run the business efficiently. You can opt for the paperless route, but even bigger businesses with greater resources find this difficult to fully implement. Again, the costs here vary depending on what type of work you’re doing, but they can range into the hundreds of dollars every month.
Software and hosting
- You need a website to build your freelancing business, no matter what, and you probably need software to do your job. You can build a website for free, but the cost of your domain name, professional hosting, and email management will cost you significant money every month.
- Budget packages could get you these services for less than a hundred dollars a month, but you may want to pay more if you want the best service. Software costs are non-negotiable and necessary; for example, if you’re a graphic designer, you need to pay for an Adobe Creative Suite license.
- When you get paid as a freelancer, no organization is there to withhold taxes on your behalf. That means, at the end of the year, you’ll be responsible for any and all taxes that you owe the federal, local, and state governments. What’s more, if you know you’re going to be making freelance money, you need to make quarterly “estimated tax” payments, or you could be liable for a penalty at the end of the year.
- It’s a good idea to set aside a fair chunk of your income, based on your tax bracket. Squirrel away at least 30 to 40 percent to be on the safe side.
- When considering freelancing, as yourself how are you going to get clients? If you’re banking on word-of-mouth, you may have to wait a while before you have a steady stream of business. If you’re like the vast majority of freelancers, you’ll need to spend some time every day marketing yourself, making connections and building your visibility as an authority in your respective industry. This is time that isn’t directly compensated, so it’s a time cost, rather than a monetary cost—but it’s still something most freelancers neglect. When you’re setting your rates, you’ll need to consider the time you spent marketing yourself as an overhead expense and set your prices accordingly.
- If you’re dealing with basic jobs and you understand the ins and outs of tax preparation and budgeting, you may be able to get by on your own. However, as your business grows and becomes more complicated, you may need to call in an expert. This expert will help you manage your finances much more streamlined. When starting out you won’t have the budget to afford a full-time staff member to serve as your accountant. However, you should be able to enlist the services of a small business accounting firm. Over time they will be irreplaceable in helping you out.
- If you’re planning to land some large contracts, you may need to invest some money in legal representation. This includes things like copyright infringement or other laws. Lawyers tend to charge a few hundred dollars per hour, even if it’s just a consultation. Depending on the nature and complexity of your questions, this could end up costing you several thousand dollars.
- My current attorney costs $650/hr. Some businesses get by without ever needing a lawyer, but it’s an expense you should plan for, just in case. It’ll help you not be shocked when the cost comes up.
Gaps in work
- Finally, remember that freelancing isn’t going to be as steady or predictable as your full-time job was. No matter how well you know your clients or how much of a strong workflow you enjoy, there will likely be periods of significant slowdown. When this happens, your income will plummet and you won’t be bringing in anything. I recommend you to have a plan in place to cover your basic business and living expenses.
- To compensate for this, most freelancers have some extra emergency savings. At minimum you should have a strong line of credit they can draw from.
Maintaining Positive Cash Flow as a Freelancer
Even if your business is profitable, it can only continue operating if it maintains a positive cash flow. Cash flow refers to the amount of cash coming into your business compared to how much cash is going out. In reference to cash flow, hypothetical money (such as work you’ve invoiced but haven’t received payment for) doesn’t count.
You can improve your cash flow with the following strategies:
- Maintain a strict budget. First, understand all the above expenses,and any standard costs of doing business. Know each month how much money you plan to receive. Keep yourself on a strict budget, and try to remain within those confines.
- Open a line of credit if necessary. If you have good credit, or if your business has been in existence for several months with a reliable profit, you shouldn’t have a problem opening a line of business credit. This is a floating line of credit you can tap into whenever you need the extra cash. It can help you get through some rough periods.
- Invoice consistently. Make sure you have a well-documented, consistent process for invoicing your customers. If you forget to send an invoice out, or invoice incorrect amounts, it could come back to haunt you.
- Follow up on unpaid invoices. Not all your customers are going to be timely and reliable with their payments. When someone doesn’t pay you on time, have a strategy to follow up with them. This was a problem of mine when I started. If needed, take further action to get the money you’re owed.
- Optimize your payable and receivable dates. Finally, work to optimize your payment dates—both incoming and outgoing. Invoice your work as soon as possible, with short terms to secure payment as quickly as possible. Delay payment of your bills until the last possible date.
Those considering freelancing need to understand that freelancing is a realistic career opportunity for millions of Americans. 53 million are already doing it, but you can’t start a business on a whim. If you pick up some extra freelance work on the side, you likely won’t bear many ongoing costs. But if you’re making it a full-time business, educate yourself before quitting your day job. The better prepared you are for these financial uncertainties, the better.