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From the Archives: Freelance Finances

Friday, September 11th, 2009

Note:This post is originally from July of 2008. While my system has been modified somewhat since then, the basic structure and ideas are the same.

I left the piece unedited from the 2008 version, but upon a new read am aware how much my writing has improved over the past year.

Enjoy!

Of all the classes I took in gradschool not one of them focused on how how to organize your finances. We had a CPA come in one day and talk about taxes, but nothing on day to day cash flow management. It is surprising since that is rather central to freelancing. And given that this is what a large percentage of their students end up doing, it surprises me there was no discussion of it. I had to make this system up on my own, via some help from talking with friends and colleagues. My system will not work for everyone, it may only work for me, but perhaps some of the ideas will be useful to others about to begin the freelance design experience.

One of the trickiest things I have found freelancing is budgeting my money. The switch from regular to irregular income can be quite a shock to the system if not prepared. It has taken me a number of years to get the system I have working with most major kinks ironed out, but it seems to be doing well currently. Since some months I will be working constantly with a fairly high and regular cash flow and other months are like a river evaporating in the desert I have adopted a system that works no matter what volume my monetary intake is at. Most of it is based on percentages and that allows my budget to expand and contract as the intake does.

Obviously I have fixed expenses like rent, gas, electricity, phone, student loan payments and internet. Thus there is a minimum I must make each month to not go into debt. By and large making those minimums is simple. Everyone has these expenses. They are obvious. There are a few other less obvious expenses that stung me a few times through my not considering them necessary.

For the system to work, taxes, savings and a “dry month buffer” should all be considered necessary expenses. By looking at these as necessary expenses I make sure I have them covered rather than waiting until the end of the month or end of the year only to find out I spent all my income.

Since I do not get W2′s there is no income withholding which means I must do that on my own. I am also under no illusion that I will “strike it rich” as a theatrical designer, so I have an IRA that I feed regularly. Both the taxes and the IRA follow the same model. As soon as I deposit each check for a project I take a percentage(currently ten percent) of that and put it towards my IRA(and to a savings account for taxes). So if I get a hundred dollar check that’s $10 to my IRA. A $3,000 dollar check and its $300. Simple.

The “dry month buffer” is less precise. Rather than a strict percentage I simply try and maintain about 1-2 months worth of necessary expenses in my savings account. This has been the most recent addition to my system and probably the one most needing of refinement. My next major tweak to the system is to make this more precise and methodical.

By doing all this before I even look at balances for necessary spending I have been able to save a decent amount of money on what can, at times, be a very meager income. There are two things that make this successful. One is knowing that almost anyone can adjust -10% of their income. It’s just enough to notice, but not significant enough to truly impact daily life.

One further trick I picked up from a friend of mine who uses a similar system has to do with money for taxes. In March he takes all his savings for taxes and puts it in a 9 month CD. In June does the same in a 6 month CD. And again in September with a 3 month.

It looks like an online savings account actually provides a higher rate of return than a short term CD. So this afternoon I will be opening an online savings account to hold my tax money until the end of the year.

The final element to the percentage system is discretionary spending. I give myself a monthly allowance, alternately called a flexible budget or spending plan, for excess income every month. By again treating it as a percentage of income I am able to allow it to expend and contract based upon earnings. And since all my credit card spending is accounted for in that spending plan I am able to pay off credit card bills at the end of the month(or weekly when I am really on top of things) to prevent that from getting out of control.

This all may fall into the over sharing category for some. But to me I would have loved to have this information at my disposal when I started working regularly on 1099 income. I hope this might help you out.

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Knowing your worth or How I made $300 in five minutes

Friday, August 28th, 2009

Setting your fees can be a difficult thing for a freelancer. Many of us have trouble putting a value on our work. Potential jobs are typically offered at a set fee and we have the choice to take it or not. The impulse to take the job regardless of fee can be heightened during difficult economic times.

When the economy is so uncertain it is tempting to take any work just to ensure there is a flow of dollars into one’s bank account. While such actions might solve a short term concern, the long term impact can be detrimental to future success. The person who hired you may not remember the difficult economy but they will remember the fee. Going forwards you will have a potentially unpleasant uphill battle to get the fee you know you deserve.

Before I continue I must be clear that not all projects can be evaluated on economics alone. Doing so makes us mercenaries rather than artists. Working in a creative field my primary concern is the art. Sadly our society does not fully value art and as such the drive to create beauty must be balanced against the needs of food, shelter, and clothing. So if the priority of my soul is the art, the priority of my body is the fee.

Knowing within yourself what your work is worth is necessary to getting the fee you deserve. Discovering what that is requires balancing your sense of worth and the life you want to live with various external factors. If you want to make $50,000 a year, you have to do twice as many projects if you charge $1,000 than if you charge $2,000. The actual fees you can expect may not make it possible to earn as much money as you would like. At that point you need to reevaluate your lifestyle.

Determining a realistic fee requires looking at five factors.

  1. Market Demand
    Depending on your field there will be a greater or lesser demand for your services depending on where you are. New York has a glut of theater designers. San Francisco has a glut of Web Designers. When a market is flooded there is more competition for each potential project. This increases the likelihood that someone else with your exact skill set will be willing to work for less money than you.
  2. Time in the Field
    It should be obvious that someone fresh out of school would not demand the same fees as a thirty year veteran. That said there are plenty of people new to a given field, without much training, who ask for fees equal to the real masters.
  3. Past Projects
    Even if you have only been around a short time you may have landed a few big projects in that time. While the theater tends to judge based on what you did last week rather than what you did last decade your history speaks to your aesthetic judgement. Technology moves fast but talent builds slowly. Solid projects, even if they are old, can speak volumes about one’s creativity and insight.
  4. Contacts and Networks
    The people who speak highly of your work are speaking of your worth. Fifty people your potential employer has never heard of do not hold the same weight as one highly respected veteran.
  5. Talent and Skill
    You might find it odd that I leave this for last but in many ways it is the least important. Until someone has worked with you, your talent is little more than images in a portfolio and words in a recommendation. As a mentor of mine once said, “You have not been hired until you have been hired back.” The value of your work shows up when you get hired again.

Knowing your value gives you a place to bargain from. You know how much you want and how much you will settle for. These maximums and minimums are necessary to have in mind when negotiating a fee. Without them you are guessing.

I recently negotiated a project that was paying a weekly fee. I knew what I had previously made on similar projects so I added to that as my maximum. I also knew how much I would be willing to settle for. The producer offered just below my minimum. I countered with my maximum. Five minutes later we had settled on a number $150 above his initial offer. Over the two weeks the project will last that five minutes made me $300. Not bad!

It was not too long ago that I would have just accepted the initial offer and been done with it. Not only have I gained a greater sense of my own worth generally but this particular project filled the five requirements perfectly. The talent pool was relatively small, I have sufficient experience with the work, I have done similarly high profile projects in the past, I was recommended through mutual friends, and I am good.

Every project is unique. Yet having a clear sense of your own value will make your position in the fee negotiation process strong. Knowing your worth reduces the two hurdles of the bidding process. Overbidding keeps people from hiring you. Underbidding keeps you working harder than you need to make enough money.

Knowing your worth not only puts you in a position of power with regards to your work, it gets you the work you should be doing.

I hope you found this article useful. Please let me know in comments.

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Why Networking Always Fails

Friday, August 21st, 2009

Networking and social media are the buzzwords of the day. It seems like even people with full time jobs as someone else’s employee are jumping on the bandwagon. It’s a marketing bubble, the hysteria has reached the masses and soon the bubble will burst.

Why will the bubble burst?

Because no one likes a marketer. No one enjoys having their dinner interrupted by someone calling to chat about the newest deal they can get on a credit card they don’t need. And if you don’t enjoy a phone call, why would you enjoy reading about someone’s newest venture when all you really want to do is catch up on the latest baby pictures your cousin just posted? You don’t. It’s that simple. No one does. Well, perhaps the marketers themselves but even many of the social media avant garde have called it enough. Twitter autobots are being mass unfollowed after being purged by the service itself. Because even the marketers don’t like the marketers. Soon all twitter will be is a series of robots marketing the latest book to each other on how to gain more twitter followers.

But I digress.

What I wanted to talk about here was networking. This is one of those words that used to make me cringe whenever I heard it because I had seen so many bad examples. I never “got it” and always thought there was some trick which I kept missing. I would hear people say “so and so is a good networker” or “you have to be good at networking to make it.” I always thought it was some specific set of tasks and actions that one had to do. All around me I saw example after example of “networkers” who literally turned my stomach. From the man who couldn’t be bothered to look at you if you were not “someone,” to the young woman who would quite literally turn away from you mid-sentence when someone more important came along, I found these “networkers” sickening.

And they were. They were playing the game. And the game works for some people. These people may well make far more money than I do. Obviously to the “important people” a lot of this behavior goes unnoticed as they receive only the funny, seemingly gracious, behavior. But I do believe it has an impact. The radical inauthenticity in this kind of behavior will eventually catch up with the people engaging in it. What good is money if you suddenly wake up at the age of 65 and realize your entire life has been a hollow lie? A deathbed conversion won’t do much to make up for a life ill spent.

So, while this particular brand of networking might fail in the short term and certainly fails in the long term, why does everyone recommend networking? Because the successful ones don’t “Network.” Successful networking is not about saying the right thing. It is not about telling people about the right projects you are working on. It is not even about talking to the right people.

Networking is about Authenticity. Networking is about utilizing one’s network to get work. The efficacy of that ability lies directly in the strength of the individual connections within the network. These individual connections are nothing more, nor less, than simple human relationships. Being false and inauthentic might gain you points with other false and inauthentic people, so if what you want is a group of friends, none of whom are real or expressing their true thoughts, feelings, and opinions, than you should continue networking in a forced and inauthentic manner. If what you want out of life is a robust group of friends and colleagues with whom you share strong personal connections, you should strive for authenticity.

The goal in life is not a goal at all. Life is about the journey, about living. There is no pinnacle of success. Human growth and self-development can always continue. We can always improve ourselves.

Along with authentic action, or right action as some refer to it, our next best tools are humor and good will. This is not, in any way, a matter of forced smiles. This is about being light and playful. Humor means not letting the work become so heavy that there is nothing beyond the weight of it. And humor goes far. It teaches others that we are not merely work machines, but real human beings with a rich emotional life. In the world of social networking, on-line or off, that real humanity is what sells, not some prescribed notion of being business-like.

So too does good will go far. If one is only around networking events, parties, facebook and so forth in order to sell, you quickly become a tele-marketer, that person that no one likes. If, however, you are not only asking for the occasional gig, or promoting your work, but more often providing value, helping people with problems and otherwise putting yourself out there as a source of use and value, the work will come to you. We are not playing “the game,” we are interacting with our fellow human beings.

For all the newsletters, facebook mentions, portfolio updates, blog posts and so on that I send out, every project I have ever worked on, with one notable exception came through a friend of mine who I was not mining for work. The people I help out, who I am friendly and authentic towards, are the ones that hire me or recommend me to someone new. Everything about networking that sickened me never got me work. Everything about spending time with interesting people, being authentic, funny and inquisitive, has not only brought me work, but brought me repeated work as well as new clients and collaborators.

The lessons of networking are like the lesson at the end of War Games, “The only way to win is not to play.” We need to throw out the rules and guidelines, if not the whole game, and simply be our authentic selves. Through authentic right action our network will provide us with the opportunities that we desire.

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Income Averaging for Freelancers – 7 Tips for starting out

Friday, August 14th, 2009

One of the things I discussed in my recent series on finances for freelancers is the use of averages to determine spending and salary. I thought the point could use further explanation as it is a central concept necessary to understanding the unique challenges freelancers face. While many people have irregular income, the way it manifests for freelancers can be uniquely tumultuous. Further, this is particularly tricky when just starting out.

The fee/income structure of your field will determine how useful averaging is. At the extreme are freelancers who get a single lump sum, while others will have regular payments throughout the project as various phases reach completion. I will be using my own field, theatrical lighting design, as an example throughout this discussion. Obviously your mileage may vary.

Lighting design fees are typically based around project phases and as such come in large irregular chunks. I tend to get three checks on any given project. The first check is delivered upon contract signing, the second when the lightplot is delivered to the theater, and the third at opening. Because of this structure I may, for example, sign several contracts at the beginning of the year thus leaving me with a large stockpile of cash in January. After that signing I may not have any projects completing in February, so while my income for January is quite high, my income for February is negligible to non-existent. March might be somewhere in the middle with a plot or two completing and a show opening.

As you can see, the variance month to month is quite profound. Obviously I can’t base my life and budget around the minimum I make in a month as I would then be trying to live off $500 a month and that is simply unrealistic. Trying to base my living off of the highest month would be unsustainable as it would land me in piles of debt once I hit a low period. Add to this the fact that every year has a slightly different rhythm to it, I need to find a way to look at the big picture and make my income assumptions, as well as budgeting plans based on something larger than a monthly unit of measurement.

What is critical with a system like this is taking the long view. Monthly projections will not get you very far. During boom times you will be living large or paying off debt and during bust times you will be scrambling and accumulating debt. By looking out at your income over several years and noting what a typical average month looks like, you will have enough data points at your disposal to make strong informed decisions.

Some systems suggest budgeting for your income based on the month you make the least amount of money. This might be fine if we are talking about someone whose income only fluctuates 10-20% each month. But with any profession whose income is as irregular as mine and most other freelancers I talk to, averages make far more sense. If you have any real track record for your income, at least 3-5 years, it will be a simple process to know what a typical year looks like and make your calculations from there. With a few years worth of data one can make assumptions based upon a large enough pool of information that a realistic monthly average will emerge almost naturally.

All this begs the question what to do when just starting out. How do you manage this in your first year when you have no data to fall back on? Below are a few points to consider when making the leap from employee to freelancer.

  1. Ask around
    Talking with people in your field can be a great way to get a sense of what things will look like, realistically, for those first few years. Specifically talk to those a few years ahead of you. While someone at the top of the field can be wonderful as a hero, they won’t necessarily have practical help for where you are right now. Someone two years out from you will.
  2. Build an emergency fund
    Save up at least four months of income to spread out over the year. As you adjust to the boom and bust cycles of each month this will help you get by and feel comfortable and secure.
  3. Don’t do it all at once
    In my first two years as a freelancer I worked a full time job for four months out of the year as resident lighting assistant for the San Francisco Opera. This allowed me to stockpile cash and thus ease the burden of the next eight months.
  4. Create multiple income streams
    If you are a designer, can you also assist? Do you know photography, graphic design, or some other skillset that could get you work beyond your preferred niche? Do it.
  5. Don’t specialize
    Be receptive to projects outside your ideal aesthetic range. Take them on as a challenge to discover a broader array of aesthetic viewpoints. Not only will you learn a lot, but you will have access to more work.
  6. Don’t be afraid to fail
    I made just about every mistake possible my first year freelancing. The biggest was forgetting that I was responsible for tax withholding. It took a few months of scrambling to get together the money to pay that bill. I still mess up, but I take every error as a learning experience and constantly upgrade my system.
  7. Have fun
    Too many people get so frightened over the money situation that they pass up fun and exciting projects that may not pay as well. I got into freelance design in order to have the flexibility to take projects that are artistically satisfying. If I wanted to sit at a desk and be miserable in order to make money, I would get a full time job.

Gathering as much information as possible about the business aspects of your field is as important, if not more so for a freelancer, than is having the skill set necessary to do the job. The skills will get you the work and get you hired back. The financial knowledge will keep you from going bankrupt in the process.

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Automating Finances for Freelancers

Friday, August 7th, 2009

The final element to discuss in our ongoing conversation about freelance finance is Automation. Unlike salaried employees we freelancers can not automate everything, as monthly intake varies, but we can do a lot.

Last week we explored targeted savings accounts as a means of minimizing the impact of large purchases. The ideas in that essay provided us with the necessary foundation for this last step and deserve a quick recap.

With targeted savings accounts we put in place a system that will even out the impact of large purchases by proactively averaging out the costs of those purchases over time and saving it in advance. These accounts differ from emergency funds in that they focus on known irregular expenses rather than unexpected expenses or income loss.

Going through our budget we find all those elements that should be in targeted savings accounts and set the money up to transfer at the top of each month. There should be a delay of a few days from the auto-deposit of your salary to avoid overdrafts. Once these accounts are set up to auto-transfer we can sit back and stop thinking or worrying about them. Pulling the stress and concern over purchases out of our day to day life leaves us with greater mindshare for exciting things like designing, or making more money.

Automating your savings is 90% of this process. We could set up accounts for things like a new car or computer, a down payment on a house, a vacation or any other big ticket item we want. Also smaller items like dentist visits, a new phone and so forth could have their accounts automated in this fashion. By savings I am including not only the of save-to-spend items included in the targeted accounts but also retirement savings, IRS contributions, etc. Again, the key to this is breaking these larger purchases down into smaller, more manageable monthly increments.

Another aspect of automation is monthly expenses. Electricity, phone and similar bills can all be routed through credit or debit cards to ease the stress of bill payments. In fact many credit cards themselves can have auto-pay set up for the account balance at the end of each billing cycle.

A word of caution. This step is the roof to the financial house we have been building over the last several weeks. Like a real house, if the walls or foundation are weak the weight of the roof could cause the whole thing to collapse. Overdrawing your checking account to pay a credit card bill will land you with enough fees to make you cry. Especially once the credit card adds fees for the processing of non-existent funds. Use this system wisely and at your own risk. It can be a powerful tool, but like anything powerful, there are risks involved.

Automation is the final step towards creating a smooth and stress free economic life as a freelancer. The economic realities of how we work is inherently complicated by uncertainty. If we are not actively engaged in a current project we are planning an upcoming project or tracking down future clients. We never know month to month or year to year how or when our income will come to us. While this system can in no way solve that problem, what it can do is minimize the impact of that uncertainty in our lives.

This system is not simply about managing money. It is about designing your life. Do you want your choices to be made out of fear and desperation or out of a proactive will to live the life that you want? Will you be like most of the world and flail about once an economic downturn hits? Or rather, will you be like Norway, using your strong foundation to gain economic advantage?

The choice is yours.

For more reading, a great explanation of one method of automating finances can be found here.

Good luck! Please feel welcome to share your thoughts in comments.

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Targeted Savings Accounts for Freelancers

Friday, July 31st, 2009

As Freelancers our monthly intake varies wildly month to month, so we must set up a structure that allows us to live without day to day concern for those fluctuations. In Part 1 we discussed budgeting. Part 2 dealt with salary. In Part 3 we explored emergency funds. Now we move on to targeted savings accounts. Targeted savings accounts are an important part of a solid personal finance base and critical for freelancers.

Targeted savings accounts come in two flavors. One has to do with large annual or irregular expenses, such as insurance payments, dental visits, holiday gifts, or a new computer. The other are regular expenses that fluctuate strongly and thus are difficult to budget for in the traditional sense. In all these cases the matter comes down to averaging the expenses. This is the same process we do to address salary. Since many freelancers see fluctuations by as much as several hundred percent in their incomes from month to month, the only reasonable way to approach this is with averages.

Remember, emergencies are dealt with in emergency funds as outlined last week. What we are talking about is known irregular expenses. So on to averages.

How does this averaging work? Well, let’s take our first example, the large irregular purchase. These are the ones that trip people up the most. Because they are not planned they often surprise, despite the fact that some amount of unplanned expenses happen every few months. This month it may be the car, but six months down the road it may be the computer. Then there is the one that gets everyone on April 15th, TAXES.

Let’s say you know you will need to buy a new computer in about a year. The computer that you want retails for around $2,400. Most people tend to wait until they want to buy the computer then when the time arrives they throw the whole thing on a credit card and pay it off in installments. However with this model you end up paying closer to $3,000 or more with interest. Instead what we do is set up a savings account specifically for the purchase of that new computer. Every month we put $200 into the account. At the end of a year, we have enough to buy the computer and with the interest earned cover taxes on the machine.

Simple.

There are also medium to large expenditures that occur regularly but more spaced out than, say, rent. The dentist is a perfect example of this. A regular checkup with my dentist is in the range of $120. I am supposed to go every six months. As such I have set up a savings account that I deposit $20 into every month, thus giving me the $120 when it is time to go.

These averages are included in my budget. So while I might not “spend” the money each month, it is accounted for and taken out of my salary. And my salary in turn is composed of both monthly expenses like rent and groceries but also these irregular expenses.

One of the most difficult for most people is Taxes. However, after freelancing for a few years you get a rough sense of what your real tax rate is going to be. As a lighting designer I have very high overhead. As a result my deducible expenses are correspondingly high. While I could save 40% of my income “just to be safe” I know that realistically I only pay 10% of my gross income. As such I put that much away into a targeted account just for taxes. If I have any left over it is usually not that much and I can just roll it over for the next year.

On taxes, since I have over 5 years worth of data I am basing this 10% number on my own specific situation. Yours may well be different and certainly if you have less overhead you will pay at a higher rate relative to your gross income. If you only have a year or two worth of data being overly cautious can’t hurt.

I then have a generalized savings account for regularly budgeted business expenses. While I budget for what I typically spend in a month, some months are a little more and some a little less. If I budget $15 a month for stationary but only spend $10 this month I put that extra $5 in a generalized account. That way in two months when I spend $20 I have that covered without upsetting my budget.

From reading all this you might think I have 20+ savings accounts with various banks. In fact I have two. One is my primary account from which I pay myself a monthly salary. The other is with an online bank that allows me to create as many “sub-accounts” as I want. A good, and deeply sarcastic, explanation of this sub-account system can be found here.

With a little advanced planning we freelancers can create a smooth life for ourselves despite the economic vicissitudes of our work. By implementing this system of targeted savings accounts it fast becomes possible to deal with the little bumps caused by irregular expenses that would otherwise trip us up or cause us to plunge into debt.

Please join the discussion in comments!

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Emergency Funds for Freelancers

Friday, July 24th, 2009

Continuing my series on how to structure your finances as a freelancer it is time to look to emergency funds. If you open any book on personal finance you will discover a section, if not most of the book devoted to this topic. Many writers have covered this topic in far greater depth than I could. But still there are several points to make about the role of an emergency fund as it relates to working as a freelancer which are of great import.

Before I get into the specifics of how this relates to freelancing and our unique needs I should probably explain the concept at a basic level. An emergency fund is a savings account wherein you put money that might be needed immediately in the short term. An example might be a car accident, or major medical problem or job loss. The idea is that even though you lose your job or suffer some other major economic calamity, you will still be able to live your life without significant economic disruption or incurring huge amounts of debt. Since the purpose of an emergency fund is dealing with events that might happen now, it is critical that the money be liquid and not tied up in things like stocks.

As freelancers our concern is not “losing our job” per se so much as it is having those gigs slow to a trickle as they inevitably do from time to time. As such I have found having an emergency fund to be invaluable. I break my emergency fund down into two categories, business operations and personal expenses. I have two separate bank accounts for these and I will explain the difference below.

The account for business operations should ideally hold around 4-6 months worth of business expenses. When I wrote that first essay I talked about placing your “extra” income in this account and that is as simple as it gets. If your target budget is $3k a month and you are making $4k, rather than spending $4k a month you should be putting $1000 a month into your emergency fund. For anyone working consistently who has put together a strong and realistic budget, this should not be too difficult.

While the process is easy, getting your account up to the level of being able to pay for four months of business expenses(this includes your salary) may take some time. Not only could it take time, it will not all happen in a linear fashion. There are times, as work is slow, where the account will get below these numbers, but that is exactly what they are for. Your emergency fund keeps you paying yourself and your subcontractors without building up debts.

For those freelancers who have discrete business and personal accounts it is quite useful to maintain two distinct emergency funds. The first is for the business as outlined above. The second is for personal expenses. While they both serve the same function, it can ease the tracking of one’s money to separate the accounts. In this way, the business account would be used to pay subcontractors or broken computers, while the personal account goes towards medical bills, for example. By maintaining a personal emergency fund distinct from your business fund, it allows you to have your personal salary automated and not have to worry about the minutia of money transfers between accounts.

While there are many methods available for building your emergency funds, their very existence is necessary for work. I have seen too many people handed a check for a project they were freelancing on and told to please not cash it for a few days. While every business falls into these troubles from time to time you don’t want yours to be that one.

Rather, you want to be like Norway who had a national emergency fund and thus has been able to navigate this current global climate with not only no severe impact, but has maneuvered to expand and generate wealth when other countries were floundering.

The value of an emergency fund may seem a bit nebulous in the abstract but here is a good primer on the whole thing complete with personal example.

An analogous tip to the emergency fund for freelancers is saving for taxes. Working on a 1099 basis I have seen far too many freelancers spend away their fees not considering taxes until April rolls around when suddenly it’s crisis time. By saving a portion of each fee into an account dedicated to taxes you find yourself with a large cash reserve at the end of the year to pay the government.

While I use a simple online savings account for this, I have a friend who does the whole thing in CDs. He saves a percentage of his income with each check and then in March buys a 12 month CD, in June a 9 month, in September a 6 month and in January a 3 month. Come April all his CDs mature and he has a nice chunk of cash(plus interest) to pay off his taxes.

For those who would be tempted to dip into the fund, CDs are an excellent option for a tax fund or general emergency fund. Using them for a run of the mill emergency fund requires a bit more advance planning as no emergency will be so polite as to wait for a CD to mature. For an emergency fund, creating a CD ladder to always keep some funds liquid is a good strategy.

Obviously your mileage will vary. The strategy that works, is the one that works for you. Setting up your emergency fund in a way that makes you feel secure is of critical importance. Freelancing is always going to be tumultuous. It is the name of the game. Employing this and the other strategies I outlined will keep that tumult from impacting your daily living.

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Determining Salary and Choosing Projects as a Freelancer

Friday, July 17th, 2009

In my expanded series on managing irregular income as a freelancer I covered budgets in depth last week. This week we move on to step two, salary negotiation.

In my first post on this I covered the issue in a rather flippant manner, “Having worked out the budget for personal and business expenses you are ready to move on to the second part, salary negotiation. This part is easy. Your total budget number is your target salary. So as the employee you go to your boss (you) and ask for this. Your boss (you) then says yes. Celebrate with a cocktail.”

In truth the issue is more complex. Let’s assume for the sake of argument that you worked through your budget and arrived at a number of $4,000 a month. This does not mean you look to make $4k a month from your freelance contracts. It does mean that you need to make, on average, at least $4k a month. The whole point of this system is to even out the irregularity of the work cycle. Your standard of living does not need to fluctuate in the same cyclical manner as your work income.

Chances are if your target budget is $4k, your target monthly income will need to be closer to 6K. I will cover emergency funds next week, but this all ties into that topic. You want your business to be able to continue paying you even when you do not receive payment from your clients for weeks or months at a stretch. As such you will need to shoot for a monthly income that takes into account not only current expenses, but rising future expenses and/or a decline in future income.

Further, it is critical that your business maintain a cash reserve thus making it possible to pay assistants, subcontractors, etc. without concern for incoming checks. Targeting your business income high enough to meet all operating costs, that includes your personal salary and covers subcontractors, creates a positive atmosphere where assistants and subcontractors will want to keep working with you because they know you can be trusted to pay them on time.

This gets down to the question of how to pick projects. How you evaluate projects is a very personal decision, I have found myself refining and changing those criteria regularly as I continually check in with myself about wether or not the choice I am making is right for me. Some people will only take projects that are deeply satisfying on a creative level. Others are fine with anything so long as the people they work with are engaging. Still others will take anything that pays above a certain minimum. There are many variations and permutations of these options and finding the right balance is up to you.

One major criteria that you will be measuring all this against is your budget. If you need to make $4-6K a month you will need to find a balance of types of projects that will bring in that income. If you find that the types of projects you are willing to work on will not bring you the income you desire, then you may need to go back to step one and reevaluate your spending patterns or reconsider the standards you use to evaluate potential projects.

The balance between your budget and your target salary must be made carefully. Budgeting for a $6k monthly income when you only make 3k will turn into a disaster in short order with rising debt levels and increasing stress. Instead one must look at current income levels and future projections thereof to determine target income. From there balancing the budget with the income is rather simple.

The key in this step is honesty. While it might have felt good to design a budget with a monthly income of 6K, if your realistic monthly earnings are closer to 3K you need to bring that into consideration. This is also the part of the process where you review your budget for possible cuts in spending. Since we based our budget on actual spending habits we now take the time to look at those habits to see which might be changed or massaged in order to bring the budget number in line with the income.

The balance between income and spending is of critical importance towards creating a smooth economic life as a freelancer. Being clear and honest with yourself will allow you set up a system that has both a strong foundation and is robust enough to weather the many economic vicissitudes that come your way.

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Budgeting Irregular Income

Friday, July 10th, 2009

Last week I wrote about the difficulties of money management when dealing with irregular income as a freelancer. I listed five areas of focus through which we can gain a handle on our finances. Today I want to focus on the first of those five, budgeting. Getting this right is the key to the rest of the system. It is a foundational element of a healthy financial life and deserves spending a fair bit of time on.

Now before I go any further it should be noted that the following system is not for everyone. There are many variations out there that may work as well or better for you . What I will be outlining is a system that I have developed through much trial and error that works for me. Your mileage may vary. I went through at least 5 different budgeting systems before I developed this one and even now I make small tweaks along the way.

The most important aspect of working out a budget is to include EVERYTHING. This can be hard for a lot of people as one often does not want to admit to certain purchases, but if you spend $150 a month on comic books, you should include that in your budget or else there will be constant wonderment as to why you are always over budget. Find a place for everything.

Some items will be combined together, while others will be discrete categories. The key is to break down your budget categories as much as makes sense for you . Some may have a general dining out budget while others will separate that into dining-food, coffee, drinks, snacks etc. No one category structure is right or wrong, the point is to make it as accurate as possible and as reflective of your true habits as it can be. I drink a lot of coffee, so I have to include coffee as distinct from other food and dining options. This will not be the case for others.

The spreadsheet I have is broken down into four categories: Personal Expenses, Business Expenses, Savings and Income. Note that there are multiple sub-categories for each of these. This is because as a freelancer I not only have many different kinds of expenses that are treated differently with taxes, but I have different incomes as well. While it does not really matter from a tax perspective whether that $1000 came from a small design or some consulting work, it is useful for me to know where my money comes from when planning where to put my focus.

I will get to how to handle the Savings and Income later, but since we are dealing with budgeting let’s begin with expenses. Download the spreadsheet here. It is an OpenOffice Document. If your spreadsheet program does not support .ODS files, you can download OpenOffice here or use Google Docs.

As a freelancer you are bound to have some categories that overlap from personal and business. Big ones for me are rent and cell phone. I have two equally valid ways of dealing with this. One is to simply divide the number manually and enter it into two categories, one for personal and one for business. This requires a little more work with each entry but is a bit cleaner when we get to the spreadsheet. The other is to enter the total amount into the column and then have your spreadsheet run a simply calculation to divide the number between the percentage that is personal and the percentage that is for business.

Once you have determined how you want to deal with these overlaps you are ready to begin working with your spreadsheet. Some people prefer quicken or other database software. I like using spreadsheets as it allows me to see a clearer overview in a format that works well for me. I can easily adjust it to do any calculation I might need, but all my basic calculations are set up from the get go. I have one tab for each month. There are then 31 rows per month, corresponding with each day, wherein I enter my daily spending. At the bottom of each column are three fields. One is my budgeted amount for that category, next is the amount I have actually spent and finally the difference between the two. I also have fields for gross and net income, total expenses, total deductible expenses, etc.

I color coded all the auto calculating fields in shades of gray to indicate that the user(me) does not input anything there. These are all designed to take other information and perform calculations so that I know what my money is doing.

To begin the budgeting process, go to the "BUDGET" tab. There you will see a sheet where most of the fields are gray. This is because, with the exception of setting your budget numbers and category names, everything else is a calculation based on actual spending and earnings. Start by changing "Personal 1" with whatever the actual expense is, let’s say "Rent." This will populate all the monthly pages with "Rent" in that field. Continue with "Personal 2" and so on until all your fields are populated. You might have some empty fields, that is fine, nothing will be affected by an empty column or two. If you need more you have to do a tiny bit of work, but it is little more that adding a column and cutting and pasting the field data. Be sure to do that for EVERY MONTH or you will get some strange and frustrating results.

Once you have all your fields named it is time to enter your budget numbers. I spent the better part of a year tracking all my expenses before I made my first budget. This way the budgeting decisions were based on actual habits and not ideals. It would also be possible to rough in a budget using this system and then adjust every few months to reflect actual habits.

It is critical to not only include all spending, but also all savings. I will get into targeted savings accounts in a later article, but for now be sure that you include all your savings accounts on the budget. The ‘INCOME" fields work the same way except we do not enter a budget number. After income I have a totals field that gives me an easy reference for income and expense totals by month, quarterly, monthly average and YTD.

The last calculation at the bottom on the far left hand side of the spreadsheet is a little box called "Monthly Budget." This is your total budget including Personal and Business Expenses as well as Savings. This is your target number that you must earn every month. If the number is too high or too low, you can adjust your individual fields until you land on a number that works for you.

On the Monthly calculations you will see a field for "Total Intake" and "Earned Income." For the purposes of the template they contain the same range of fields. However, you will change these to suit your needs as some income fields will be earned income and others might be loans repayed or financial gifts. It is useful to know the total of all moneys incoming, but necessary to separate earned income from non-earned sources.

After the Income fields I have a little are I use to calculate tech and travel days. While the "tech days" are just for my own interest, the travel days are useful for tax time when calculating my away from home meal deductions. Entering an "x" in one day populates both the "tech" and "travel" columns, while a "y" is just a tech column. Obviously if you do not travel for work this is unnecessary and can simply be ignored, but I find it a lot easier than sifting through my calendar and counting out every day I am away from home or traveling.

There is a lot more that one could write on budgeting and I may well do so in future articles. For now, this is my introduction to how I approach budgeting as a freelance lighting designer.

I hope you find this useful. Please leave feedback as I am always interested in how this lands for you.

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How to Regulate Irregular Income – 5 Tips for freelancers

Friday, July 3rd, 2009

One of the most difficult aspects of freelancing is getting a handle on the boom/bust cycles of your income stream. No matter who you are, your work goes through cycles, if not volume of work itself certainly with how much you are paid. Regulating that income stream takes careful planning and finesse, but it can be done.

The first thing to realize in terms of approaching this is that as a freelancer/independent contractor you must keep the experience of your business’ income cycles independent of your employee’s experience. This is true of subcontractors as well as yourself. Your business may go through periods of expansion and contraction, but that does not in any way mean that the employee, namely you, must suffer that same fate. Microsoft is a large-scale example of this. Unlike most companies operating with a large amount of debt, Microsoft has enormous cash reserves that allow it to weather almost any economic storm. Another god example is the country of Norway.

The key to solving this problem for the independent contractor can be outlined in a few simple steps that I will look at in detail below. The steps include budgeting, salary negotiation, emergency fund creation, targeted savings accounts and automating finances.

The first thing to look at is budgeting. As a freelancer you must simultaneously budget for two things at once. First is business expenses and second is personal expenses. Some of these will overlap. For example, if you have a home office, part of that one rent check will go to your personal rent and part going to your business rent. Monthly expenses are simple to manage, but it is also necessary to figure out a monthly budget that accounts for annual or periodic expenses.

While this is something that trips most people up, doing so is quite simple. For regular expenses like rent you have a fixed number, say $1000 a month. You know this will come up, like clockwork on the first of every month. Then there are irregular expenses like computer software. I do not purchase a new drafting program every month or even every year, but I do know that at some point I will. I deal with this in the following way. Figuring the expense might be $2400 every two years, I divide that up monthly and get a figure of $100 in my monthly budget.

In my budget I include everything. This means not only am I budgeting for purchases, I am also budgeting for tax savings since I work almost exclusively on 1099s. If my dentist costs $120 a visit for checkups and I go twice a year, then I budget $20 a month towards that. Every expense. The key to making this work is to gather all your expense data together to know what you spend money on not just monthly or weekly, but annually or bi-annually. Do not forget to include fun. I have personal gifts and vacations included in my budget so that is accounted for, as well as the occasional ice cream cone or comic book. Be honest and account for everything, or the system will not work. At some point you will arrive at a figure for your budget. Let’s say $4,000.

Having worked out the budget for personal and business expenses you are ready to move on to the second part, salary negotiation. This part is easy. Your total budget number is your target salary. So as the employee you go to your boss (you) and ask for this. Your boss (you) then says yes. Celebrate with a cocktail.

Getting more serious, your business is not going to make exactly this number every month. There may be months where you clear well over $10 or 20k and others where you make nothing. We’ll deal with this next but the point is your business (you) pays your employee (you) that amount every month to cover all expenses.

Once we have our salary, what do we do with it? Well, most of the money probably goes towards paying bills and other expenses. But some of it will be left over. If your monthly budget is $4,000 and you make $6,000 this month there is a $2,000 surplus. This is where many freelancers get tripped up. Seeing this “extra” $2k they go on a spending spree and set off to enjoy this “flush” feeling. Of course the following month when they only make $2,500 they soon rack up credit card bills and feelings of anxiety.

The point of the budget is to include those fun purchases so that when you make that “extra” $2k you can put it into your business’ bank account to wait for next month’s salary payment to your employee. You include fun expenses so that as an employee you are not looking to embezzle funds from the company. Remember, just because you are both owner and employee does not mean you are not running a business. Treating yourself like an employee will give you and your business long term stability.

Through taking this “extra” money and putting it away to pay future salaries you are creating a savings buffer or “emergency fund” for your business. I like to keep a minimum of 4-6 months of income on hand in case of economic drought. This has proven useful for me when, over the last 18 months the bottom has largely fallen out of my work. I am able to get by on the cushions I have created for my business and while there is belt tightening, there is not immediate crisis.

Next up is targeted savings accounts. Remember that annual expense that we broke down into monthly payments? What we do with it is, through the use of an on-line savings account create a sub account(any online bank should allow this feature) for that particular item. Thus every month, along with paying rent, I put $20 into my “dental” account. Then in six months, I have the money saved up to go to the dentist and my regular cashflow/life is uninterrupted. I have targeted accounts for numerous items, taxes, vacations, website, etc. Using on-line savings accounts in this way not only do you minimize the impact on your daily routine, you also begin making a little money on the interest, or at least not losing money due to inflation.

I also keep a generalized account for budgeted items I go under in a particular month. Perhaps I budget $15 a month for stationary. If I only spend $10, then I put the “extra” $5 into my generalized expenses account. No matter how good your budgeting and planning, sometimes you will go over. The purpose of this system is to allow for such overages without causing disruptions to your life.

The final step is automating finances. Much of this is done through the savings plan, and any monthly budgeted savings should be automated as much as possible. Recurring expenses like internet, gas and electrical bills, etc. that can be routed through your bank account or credit card should be. Having set up your structures, you should make the system as automatic as possible to take your concern off of where your money is going and put it towards the work you are creating.

In future weeks I plan to expand upon some to all of these points, but this should serve as a good introduction for now. I hope you find this useful. Feel free to leave comments below.

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