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spirozero

Question for U.S. freelancers

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I receive a paycheck every two weeks. Based on this income my wife and I map out our weekly/monthly/yearly budget - mortgage, insurance, car expenses, gas, food, utilities, and so on.

 

So, I’m curious - how do you freelancers (preferably married with kids) figure out your budget? Like, do you say, “All of our expenses add up to roughly $6K/month, so I better bring in $6K. If I only bring in $4K, then the pressures on to bring in $8K next month.”

 

Is the math that simple?

 

And what about taxes? If you receive $4K from a client, do you set aside $1,200 (roughly 30%) for federal and state tax?

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I'd be curious as to how others handle this.

 

When I get a check, I deposit it and immediately transfer 30% into my savings account. This way, there's no doubt as to how much I can or cannot spend in my in-and-out accounts. I keep an eye on all of my billings for the year-to-date to make sure I am on track for 30% for my yearly income at any given point. From there, I either leave the money in savings or transfer it to an interest bearing account or mutual fund to make my money do something.

 

As for budgeting, I probably should be more organized. But, I either earn enough to cover expenses, or I have enough money buffered to make up the difference if a month is slow. I find that buffering about 3 months of expenses really puts everything much more at ease, that way one isn't fretting about that next check every single month. I am VERY grateful that my wife earns health insurance even as a part-time teacher. I don't typically have a "goal" amount per month. Some months are crazy, and some are slower... and I accept the organic ebb and flow of work as the freelancer way of life.

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I was under the impression that if you are an independent contractor then you have to give a monthly amount of money to the government for taxes.

 

I didnt do this last year. I set aside 25% each paycheck...but after I submitted my taxes they came back and said I owed them $58. (As a fine for not paying every month)

 

Needless to say...I still havent done it this year. I guess id rather keep massive money in my savings just in case I need emergency plastic surgery on my cat....

 

Is that norm?

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In the U.S. you would have to pay quarterly taxes - not monthly, if you are incorporated. This means paying a portion of your estimated income for the year. If you aren't incorporated - I am pretty sure you are like everyone else - once a year.

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i like to work one big job and save the money up, when i see it get under a certain amount i email all the companies i work with and get another job. i dont save any money for taxes. taxes are due in april, so i just get another big job in feb. and use that to pay my taxes.

 

dumb system i know, but i HATE banks, credit cards and interest. seems to work out fine for me. oh, and i save everything in a checking account. the interest in a savings is not appealing, and theres no way im helping those crooked bastards invest into shadier practices.

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You guys have to pay self-employment tax as well, right? I read somewhere that it's roughly 15% of your net profit. Does that sound right? Harry - when you say 30%, is this 15% self-employment tax included?

 

I doubt my wife and I could handle the freelance lifestyle. We're too hyper anal with our budget. We do that envelope system - we set aside money each paycheck for food, gas, phone, internet, car repairs, kids college fund, blah, blah, blah. I just can't see us living the way you do, Rothermel.

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The so called self-employment tax is, essentially, a higher tax rate on your income. Instead of splitting your taxes 50/50 with your employer, you pay the whole thing yourself. So, this is included with my 30% that I set aside. My withholdings are probably a little more like 32% as I always round up to the nearest hundred.

 

I don't actually pay quarterly. I consider it a scam by the government. If you don't pay, you get a penalty of something like $350 ? I don't know the exact figure. But, you can take that lump some of money over the course of a year and earn more with it and eat the penalty. Screw them. It's my money and I shouldn't be penalized for using it wisely.

 

The freelance lifestyle can definitely place stress on a family. Even if you never ever come close to running out of money, and pay off all your credit, the rocky ride isn't for the squeamish. Maybe in a bigger city it isn't as harsh, but in a town like Detroit, work can dry up quickly, leaving me to find more remote work, or traveling to other cities for work, which doesn't mix well with family either. That said, every month I am still able to put away money into long-term savings, 401k and my son's college fund.

 

I am still trying to figure out if I am just getting too old and grown-up for this game. My options are limited, and all seem to include moving my family to another town to find a staff position (and selling a home). But for now, I'm still a gun-for-hire. I can't help but wonder as I turn 35 in a couple weeks.. am I going to be doing this at 40? 50? Will I be that older guy that hangs out at the young hangout?

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if you make about 45k or more a year freelancing and are not an S-corp... i suggest you stop what you are doing now and go see an accountant and tell them you want to be an S-corp. Basically an S-corp is a corporation with no employees.. What's great about an s-corp is you get to split your income up into "salary" and "distribution". You need to pay income taxes on everything but your "distribution" is exempt from paying ss and medicare taxes. In the end it can save you some cash. The more money you make a year the better in this situation. You basically figure out what your salary should be based on your peers, the standard going rate and the competition.. then the rest of your income can be your companies distribution. The distribution goes to all the shareholders of the company but because you are the only shareholder all that money goes to the owner. I remember reading an article way back when about john kerry's law firm bringing in like 500+k - he took an average lawyer salary of like 120k and the rest was overhead distribution. It's a pretty wild loop hole when you are dealing with huge sums of money. But it still is beneficial if you are making over 50k.

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I highly recommend getting a good accountant if you're freelancing in this biz; you'll likely save far mare money than you'll ever pay them. Another plus is that if you get audited, the accountant has to deal with most of the crap.

 

I pay the quarterly installments to the gubment even though I agree with graymachine that it's pretty much just a scam that enables them to collect the interest on the money as opposed to you. After dealing with the IRS on another issue (basically there were two of me in their records; one that always paid his taxes and one that never did) I prefer to keep them happy despite the fact that it costs me more money. By the way, I don't even think it's an automatic penalty if you don't pay quarterly; I'm under the impression that they have to a) notice and B) care enough to follow up. I know lots of people who don't pay quarterly who never get slapped with the penalty.

 

Other than the accountant issue I'd advise setting aside a couple months worth of income as a buffer, not only for possible slow periods but for dips in cash flow, which happen when you're busy as well. A line of credit is a good backstop too, as long as you pay it off. ;) It's not uncommon for my wife and I to be looking at a pile of money in our accounts receivable, with almost nothing in the checking account. Then, we get 5 checks in the mail in one day and all is well in the world. I'm fortunate in that I've had steady work for a long time now, but even so cash flow is still a bit of a roller coaster. If you're living on the edge financially, this can kill you.

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As for budgeting, I probably should be more organized. But, I either earn enough to cover expenses, or I have enough money buffered to make up the difference if a month is slow. I find that buffering about 3 months of expenses really puts everything much more at ease, that way one isn't fretting about that next check every single month.

Same here. When work is good I just fill the buffer. About 3 months as well.

I also just mentally subtract about a third of my earnings to give to the government.

Too bad it's being thrown out the f'ing window. Jerks.

 

NYC has so many "made up" taxes it makes you want to throw some tea off a boat. I can't stand getting ass deep in money matters every 3 months so I pay taxes at the end of the year (for a large lateness penalty which has been as high as $600).

 

As a freelancer, the key to having enough money at all times is freaking out (and doing something about it) a couple months BEFORE it happens.

 

-m

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if you make about 45k or more a year freelancing and are not an S-corp... i suggest you stop what you are doing now and go see an accountant and tell them you want to be an S-corp.

The IRS is well aware of this loop hole... so be careful. Make sure your accountant is smart enough (and ethically soft enough) to play this game. It's about as big of a red flag as declaring your rent as a business expense.

 

-m

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same as most everyone here:

1. flat percentage of income set aside to pay taxes (35%)

2. 3-6 month cash-on-hand buffer (for known expenses)

3. pay quarterly taxes.

 

As far as a budget goes, I think a 6-12 month buffer would be wise if you are married and have kids.

You never know when the car will break down or there is some other financial burden you were not expecting.

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The IRS is well aware of this loop hole... so be careful. Make sure your accountant is smart enough (and ethically soft enough) to play this game. It's about as big of a red flag as declaring your rent as a business expense.

 

-m

 

plus it will cost you $1500-2000 in legal fees to form a corporation.

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I am still trying to figure out if I am just getting too old and grown-up for this game. My options are limited, and all seem to include moving my family to another town to find a staff position (and selling a home). But for now, I'm still a gun-for-hire. I can't help but wonder as I turn 35 in a couple weeks.. am I going to be doing this at 40? 50? Will I be that older guy that hangs out at the young hangout?

 

I would say no. I just visited LA to get a feel for the market there and I can say without hesitation that there is a shit TON of work there. People of all ages and capabilities work in the shops out there and it's not at all hard to break in if you have the skills which you most certainly do. It's WAY more diversified (age/work/everything really) out there than it is here in Miami and I imagine you would have a similar experience. I've already rented a place out there and am in process of moving my family out now if we can ever get clear of all this hurricane madness. There are other factors to weigh in, but that's a different thread.

 

The IRS is well aware of this loop hole... so be careful. Make sure your accountant is smart enough (and ethically soft enough) to play this game. It's about as big of a red flag as declaring your rent as a business expense.

 

It's not really uncommon at all... I certainly wouldn't say it's HUGE red flag. It's ONLY taking distributions and not paying payroll taxes at all that I understand IS a huge red flag. Distributions are taxed as well. They flow right through to your 1040, so you are still paying income taxes on the money, you just are not contributing to social security or paying unemployment taxes on those particular funds. The general rule of thumb seems to be as long as you are contributing SS taxes via payroll on a sum that would be considered a fair salary for your position you should have no troubles. Obviously, anyone dealing with a situation like this already has a CPA and will consult them for guidance on how to handle the situation.

 

 

plus it will cost you $1500-2000 in legal fees to form a corporation.

 

You may pay that if you ask an attorney to fill out the paperwork... but it's easy enough that a half-retarded eight grader could fill it out, and the actual fees (from the gov't) are more along the lines of the aforementioned $250-300. I would encourage ANYONE working freelance here to set up a corporation and to do it yourself. The benefits of having a small business are what make this country great, and if you are not taking advantage of these benefits you really are cheating yourself.

 

My .02

 

-Chris

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The IRS is well aware of this loop hole... so be careful. Make sure your accountant is smart enough (and ethically soft enough) to play this game. It's about as big of a red flag as declaring your rent as a business expense.

 

-m

 

 

nah, it's not really a red flag.. If you make 50k and you declare 45k as distribution that's a red flag.. Having and declaring distribution is pretty standard if you're an inc - you just need to be reasonable. I'm not saying "don't pay taxes" or "there's this crazy loophole you need to get in on"... I'm just letting people know that you don't need to get paid to your ss# and that there are other options. In my opinion, if you make 50k or more an S-corp is by far the best way to go.

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Guest Sao_Bento
What about if you are just starting out and/or doing a little bit of freelance on the side. I mean a little :(. How would you account for this? I'm not a LLC or INC.

Josh

I think the overall theme here is that you can just do the 1099 route, but you're missing out on the real benefits of being a freelancer. Without making taxes work in your favor, it's going to be harder to be successful, but it can be done, you just need to remember to put some money away for tax time. In the end, it is best to commit to one way or the other (staff vs. freelance).

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nah, it's not really a red flag.. If you make 50k and you declare 45k as distribution that's a red flag.. Having and declaring distribution is pretty standard if you're an inc - you just need to be reasonable. I'm not saying "don't pay taxes" or "there's this crazy loophole you need to get in on"... I'm just letting people know that you don't need to get paid to your ss# and that there are other options. In my opinion, if you make 50k or more an S-corp is by far the best way to go.

The theory behind the loophole is that you can estimate your worth below what you know to be true, show that number to the IRS as your actual income, and then redistribute any excess profits back into your own pocket without calling it income. If that's not saying "there's this crazy loophole you need to get in on" I'm not sure what is. It's up to each individual how they want to play the game, I'm not here to pass judgement... only to warn people of any risk. Surely you can agree that's the responsible thing to do.

 

-m

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I think the overall theme here is that you can just do the 1099 route, but you're missing out on the real benefits of being a freelancer. Without making taxes work in your favor, it's going to be harder to be successful, but it can be done, you just need to remember to put some money away for tax time. In the end, it is best to commit to one way or the other (staff vs. freelance).

One of the reasons I started an LLC was solely to maintain 1099 status.

Many NYC studios will refuse them unless you have a Federal Tax ID.

 

-m

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The theory behind the loophole is that you can estimate your worth below what you know to be true, show that number to the IRS as your actual income, and then redistribute any excess profits back into your own pocket without calling it income. If that's not saying "there's this crazy loophole you need to get in on" I'm not sure what is. It's up to each individual how they want to play the game, I'm not here to pass judgement... only to warn people of any risk. Surely you can agree that's the responsible thing to do.

-m

 

With all due respect, you are only presenting the system from the perspective of someone trying to take advantage of it by knowingly lying about their income. The thing is, that you don't have to lie about your income, and just play by the rules, and still reap benefits that are all within fair play.

 

Here's how it actually works. Whatever you want to call it, (loophole, benefit) dividends exist to encourage people to start businesses. It doesn't provide an avenue for putting money directly in your pocket without paying taxes on it like I outlined in my previous post. It merely allows you to take any profits above and beyond your salary and the other costs of the company.. (ie: all salaries, rents, etc.. etc..) and take that as a dividend just like you would had you invested your money in another company's stock. Essentially you are creating your own company with stock, so why shouldn't yours pay you the way any other stock would on Wall Street?

 

The dividend is still taxed on your income tax return. You don't just take that money and stuff it under your mattress.

 

If you are looking to game the system on $50k and convince people you are living on 10k or something you would likely have issues, but if you are paid a fair amount, and business is good, you get the spoils. It's a different landscape at $50K than it is when you employ people and have tons of expenses, but I would encourage everyone here that is 1099 to set up their own company if only to learn the rules and get familiar with how it works.

 

-Chris

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The theory behind the loophole is that you can estimate your worth below what you know to be true, show that number to the IRS as your actual income, and then redistribute any excess profits back into your own pocket without calling it income. If that's not saying "there's this crazy loophole you need to get in on" I'm not sure what is. It's up to each individual how they want to play the game, I'm not here to pass judgement... only to warn people of any risk. Surely you can agree that's the responsible thing to do.

 

-m

 

Well, the key here is when you say "estimate your worth below what you know to be true..." That's illegal. I'm saying that you estimate your "worth" or yearly income based on an average of what others make in the industry and your location. Even use google to get some numbers more accurate than just a guess. The point is to be reasonable and fair and yo pay your taxes.

 

Distribution does get taxed. You pay income tax on ALL that money. You are exempt from s.s. and medicare. Being an S-corp and getting overhead isn't uncommon, illegal, wrong or anything else. It's just standard business practice. If you were to go to an accountant and tell them "I make 60k a year as a freelancer and it all gets paid to my S.S#." My guess is they will tell you to form an Inc or an LLC. Another reason individuals form corporations is to be protected.. Say you do something wrong and are getting sued.. if you are an LLC or Inc.. they will be forced to sue your company and NOT you as an individual. This means they can't take your house, car or any other personal property. But if you are just a freelancer getting a 1099 and they want to sue... you could potentially loose everything you own.

 

So my suggestion to anyone in this biz making some dough... go see an accountant... ask them questions and see what they say is best for you.

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I'm trying to follow all of these abbreviations and tax terms.

 

So, there are two routes ...

 

1.) self-employed/freelancer

 

OR

 

2.) company/corporation

 

Regarding the form-your-own-company route, am I reading that there are two options here: LLC or S-corp?

 

LLC = company?

 

S-corp = corporation?

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So my suggestion to anyone in this biz making some dough... go see an accountant... ask them questions and see what they say is best for you.

 

So if you're just starting out, and you're not sure if you're going to be making 30K, 40K ... 60K, whatever, then start out as a freelancer? And after the pay becomes more steady then switch over to LLC/S-corp (or at least until you're able to say "on average I make 50K/year")?

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