5 Money Mistakes Freelancers Make

There are many benefits to working as a freelancer, including more flexibility, autonomy, and income potential. According to a 2015 survey conducted by Edelman Berland, among freelancers working for themselves full time, 60% report making more than they did in traditional jobs.

Starting a business as a freelancer is an exciting opportunity with plenty of room for growth, but freelancers must know how to avoid some of the most common financial issues. Recognizing these five pitfalls early on is the best way to avoid money mistakes and set yourself up for financial success.

Landing your first clients as a freelancer is exciting, but it also presents challenges for setting a fair rate. New freelancers rarely know what to charge, defaulting to the hourly rate earned at their last job. This is a big mistake because that approach fails to consider business owner costs.

As business owners, freelancers must pay taxes on their income and cover their business expenses. Some freelancers might also need to take on paying for their own health insurance if there are no employer-sponsored benefits available, too.

Failing to factor in these additional costs to rates is a big problem for any freelancer, meaning that the take-home income from a project might be far less than expected.

Too many new freelancers feel the impact of a low rate after finishing a project. This is due to what DecisionLab calls “the planning fallacy” of underestimating the time, costs, and risks of completing a task.

A good onboarding call can clarify how much time and resources you need to complete the job. Ask good questions on the call about things like:

The more details you collect on this call, the easier it is to provide an accurate quote for your time.

Treat your business like a business from day one. Open a business bank account and run all income and expenses through it.

Make payments to yourself from the business bank account to your personal account. This makes accounting easier and avoids the perception of “commingling” your personal and business funds.

To determine freelance tax obligations, you need to know if the IRS considers your venture a hobby or a business with their nine-step checklist.

If you run a business, you must pay taxes on gross earnings of over $400 in a calendar year. Besides separating business and personal funds from the beginning, keep track of all income and expenses to pay freelance taxes accurately.

Freelancers have two primary tax obligations: preparing for the self-employment tax and paying quarterly estimated taxes. Invest some time learning about freelance taxes to avoid penalties or missed payments.

The self-employment tax covers your contributions to Medicare and Social Security. As an employee, your paycheck includes automatic deductions for these taxes. Your employer pays half of these taxes. However, as a freelancer, you must pay the full 15.3% yourself.

Self-employment taxes differ from your income tax, but freelancers pay both. While you can wait until April 15th to file your tax return and make one lump sum payment for all your taxes for the previous calendar year, freelancers should instead pay estimated taxes throughout the year.

Quarterly estimated taxes are due on April 15th, June 15th, September 15th, and January 15th for the money earned in the previous quarter. You can learn how to pay taxes as a freelancer by using your accounting software or downloading Form 1040-ES from the IRS.

It’s always a good idea to have a savings cushion if business gets slow or you need to take time off. Even $500 in an emergency savings fund can help in a crisis, but try to save a few months’ worth of expenses, if you can.

Independent contractors must also be proactive about retirement savings. Since it’s one of the best ways to save money for your future, contribute monthly to a SEP IRA or Solo 401k. Even if you can’t afford to max out SEP IRA contribution limits, setting aside a little each month can add up.

Starting your own business requires strategy, hard work, and educating yourself about financial issues. Put these financial planning tips into action to make the most of your freelancing.

Freelancers who earn more than $400 in a calendar year must report their income to the IRS. Clients who pay more than $600 to you over the year should send you and the IRS a 1099-NEC with your earnings total. Some freelancers receive 1099s from all of their clients and third-party payment processors like PayPal, if applicable.

The IRS will cross-check your 1099s with your submitted tax returns, so it’s important to thoroughly review your income and expenses for accuracy at the end of the calendar year.

For simplified reporting, freelancers should use accounting software to track all income and expenses.

Many freelancers prefer working for themselves rather than staying at a full-time job. But freelancing has some downsides compared with a full-time job, such as taking on the risk of running a business and making your own paycheck. However, those with an entrepreneurial spirit can thrive by choosing what they work on, when they work, and who they work with.

There are three ways for freelancers to increase their chances of getting paid. They include using a clear contract with every client, setting up milestones with payment throughout the project, and requesting a deposit upfront. With a contract, all parties get on the same page before the project starts. This reduces confusion over the project scope and the final deliverables.

Setting milestones within the project is like a checkpoint — the client can review and provide feedback promptly to increase the chances of overall satisfaction. If the client fails to pay a milestone, the freelancer pauses work on that project. Requiring a deposit at the outset shows the client good faith because it’s an investment in the overall project.