Working for yourself can be exciting, but there are also pitfalls. Watch out for these financial mistakes common to freelancers.
This blog post was written as part of a sponsored program for State Farm®. All views expressed are entirely my own, and were not influenced or directed by State Farm.
When I started freelancing, I didn’t really think about what to do with my money. I just thought it would be nice to pay the rent and supplement my (then) husband’s student loan income as he worked on his Ph.D. I didn’t want to work outside the home, but the student loans weren’t enough to support us. With my freshly-minted journalism degree, freelancing seemed perfect.
I made plenty of mistakes to start. I just wanted to make sure we had money coming in, and I didn’t think beyond that. After a couple years of struggling with taxes, credit, and other issues, I realized I needed a better plan to manage my money as a freelancer. Here are 5 financial mistakes to avoid as a freelancer:
1. Blending Personal and Business Finances
Even if you operate as a sole proprietor or have a pass-through LLC, you need to keep your personal and business finances separate. I used to put all the money in one big pot, and at tax time I had a terrible time sorting out the personal expenses from the business expenses. Keeping it separate means better record-keeping and a happier IRS.
One year, when I was sent a letter stating I owed more in taxes, I couldn’t verify things because my record-keeping was so poor. Since I couldn’t challenge with proof, I just had to pay the bill.
2. Forgetting Quarterly Taxes
My first year as a freelancer I didn’t know about quarterly taxes. At the end of the year, I had a bigger-than-expected tax bill, and it was a headache to deal with because I couldn’t afford it. I started paying quarterly, and things improved. Remember, though, a successful freelancer earns more each year, and so the tax bill grows as well! I started setting aside extra money each month to pay my taxes and cover the bigger bill. Taxes as a freelancer aren’t fun, but they are a part of the planning.
3. Spending to Match Your Best Month
During my third year as a freelancer, I started seeing more success and I began spending more to match. Lifestyle inflation is a very real problem for many freelancers. It’s exciting to watch your income grow. However, you don’t want to base your spending on your best month, or even your best year. Instead, look over the last 24 months. What was your worst month? That’s the month you should use to figure out your average spending. If you make more than that, sock it away in an emergency fund for use later. You want to make sure you can handle emergencies (and months) when you don’t make as much.
4. Failure to Save for Retirement
You might think that you don’t have enough money to set aside for retirement, but the truth is that you probably can start saving. The important thing is building that habit of saving, even if you only put aside $10 per week. You won’t have an employer plan to fall back on, so you need to get started as early as possible. There are plenty of options for self-employed freelancers, including:
- SEP IRA
- SIMPLE IRA
- Individual 401(k)
- Traditional or Roth IRA
- Defined benefits plan
Research the options and see what works for you. Open an account and start setting aside money as soon as possible so it can start growing. You want to secure your future, and one of the best ways to do that is to start early and save often, even if you don’t have a “traditional” job.
5. Neglecting Your Credit
Even as a freelancer, you should have a credit card. This is a good step toward building good credit. This is important because, as a freelancer, you will have more financial hoops to jump through as you go through life. If you want a car loan or a mortgage, you need good credit. Start building that now. When my ex and I bought a home several years ago, we based it mainly on my income, since I made much more as a freelancer than he did as a Ph.D. student. If I hadn’t built good credit, we wouldn’t have been able to qualify for the best mortgage rate. (The income audit to prove my freelance revenue was a different story altogether.) Start building credit now so that you have that good financial reputation on paper later – even as a freelancer.
Freelancing can be a great way to make money and design your ideal lifestyle. Just make sure you avoid the financial mistakes that can hold you back.
I guess I had great planning when starting my business, because I create an LLC and created a separate bank account just of these funds. I was always afraid of getting sued by some random person, so I wanted to make VERY sure that my business funds were completely separate. It makes it super easy to tell what is personal vs. what is business spending because of that. I’m glad you sorted it out after a year or two of headache 🙂
Really good advice for new starters in freelancing! Some very important points to not forget – like retirements and good credit score. Both take a long time to achieve too.
It’s incredibly important to stay on top of your taxes and other financials when you are freelancing. Added income streams means new taxes and that means saving up for them. Thank you for reminding us.
Great tips! I think people can really get carried away with their spending if they have one great month. They might think that’ll keep going when it could be a one off anomaly.
The best way to earn money is through freelancing.If you have talent, you can earn huge returns.Though it take time, but it pays off in a long run. Flexi time, earn as per your capacity and what not.
The market in my country has turned to worst. Professional jobs that can be freelanced have become cheaper due to ‘skilled’ individuals and even some pros willing to go down a certain rate just to have a job – therefore the clients have been saturated in a way that they know somebody is going to be willing to cater their low pay for their project.
I believe another downfall is pricing yourself out of the market. Lets say you find a product or service and you know you can do a better job for cheaper, but by doing so you are only cheapening your brand. Never sacrifice quality over quantity.
2016 was the first year I had to start paying for taxes as a freelancer and it was such a headache! I luckily had a lot of money saved in my savings account or else I would’ve had to find another way to pay it off. Quarterly taxes is the way to go.
I had a similar experience as you did with quarterly taxes. I ended up having to pay quite a bit at the end of the year, so now I (obviously) do quarterly taxes.
Great post – a few tips are new for me!
Haven’t even heard about them
Thanks for sharings 😉
Hey Miranda,
Without proper plan to manage your money, always feels bad.
I like the second one which is best and possible to do by everyone, keeping your business and personal expenses separate is the right way to avoid making mistakes. The five financial tips for every freelancers is great. Each one is necessary to know and must follow it, specially for freelancers.
I will try to avoid making these mistakes, thanks for making aware these mistakes. I really don’t had about it. The best thing of this article is, you have introduced about mistakes and explain to avoid making these mistakes too. Once again, I’ll say thanks for sharing it.
Looking for your next informative post.
with Best wishes.
– Ravi.
Thanks for the tips. Many freelancers spend according to what they earn and forget to save some for those “bad” months. Freelancing should be viewed like any other office job.
Taxes are a complete b*tch! No one likes to pay them. However, the best recommendation that I ever heard was to automatically put 1/3 of all income aside into a separate account for taxes – that way you avoid not having enough for the tax bill