If in these “uncertain times” you’re thinking of trying out full-time freelance, also sometimes called self-employment, consulting, or solopreneurship, it can be difficult to figure out what you should charge per hour. Now that I’ve done this for nine years (as of Sept 1, 2020), I have some advice for you. I hope you can use it to avoid some of the hard lessons I’ve had to learn along the way.
Self-Employment Must Haves
There are a few things you must consider when beginning self-employment, and they aren’t happy things. What will you do if you are sued? What if you make a terrible mistake on a customer’s website? How will you pay your taxes? Trust me when I say these are lessons you don’t want to learn the hard way, like I did. When you start working for yourself, you need to set up a company name. Talk to an attorney and an accountant (trust me, it will be money well spent) about how you should structure your business. Things to ask:
- Should I incorporate my business? (if you have any personal assets, the answer is likely yes)
- Should I buy insurance? (If you’re accessing any other companies’ private files or servers, probably yes)
- How should I report my income? (1099 is the worst way – you pay double taxes)
- How can I pay myself? (pass-through income is a great tax benefit right now)
- What should I do about health insurance? (you can pay this to yourself as an employment benefit in some cases)
- Are there any city, state, or local taxes or registrations I need to file? (most likely yes, and the penalties for not doing it can add up fast)
- Does my city, town, or homeowner’s association have any restrictions on home-based businesses? (almost always the answer is yes)
- Do you know of any discounts I can qualify for if I’m incorporated? (a few to check out are Dell, Office Depot, and the USPS)
The Business of Running a Business
If you’re still with me, and thinking self-employment is right for you, I have another blow you must take. You need to assume that only about 50% of your time will be billable. Why? Because the other 50% of the time is spent on the business of running a business. Marketing, thought leadership, networking, answering emails, research, development, accounting, collections, sales, and paperwork. You’re truly a one-woman (or man) show. Your first year or so in business is probably going to be even less billable – 30% or 40% – because you need to set up all your systems and templates.
Costs of Self-Employment
Finally, when you’re trying to figure out what your hourly or project rate should be, consider your hard costs. You’ll need to pay for the following at a minimum, unless you can find it for free (but you get what you pay for)!
- Accounting/payroll software
- Insurance (Errors and Omissions especially)
- Health and life insurance
- Utilities (like Internet, phone, mobile service, electricity, office space)
- Tools (I pay for SEO tools as well as software for things like electronic signing and time tracking)
- Professional fees (accountant and attorney)
- Travel (airfare and hotel, but also meals and entertainment costs)
- Credit Card fees (the best ones carry an annual fee that’s usually worth it in terms of benefits like cashback or airline miles)
- Periodic equipment costs (laptop, monitor, peripherals, printer, etc.)
- Bad debt (you will have this – sadly some people do not pay)
Calculating an Hourly Rate for Self-Employment
Now that you’ve considered all of those costs and added in your startup costs (everything from those extra attorney and filing fees to a paper shredder), you can back into your hourly rate. Start by considering what you’d like your annual salary to be. Keep in mind that you may need to take a “pay cut” at first because of the costs of starting a business, being an unknown entity, and in exchange for the benefit of not dealing with a boss, coworkers, and a commute. There’s value there!
If you’re like most Americans, you’ll want to take two weeks of vacation, 5-8 sick days, and you’ll take the 10 major holidays everyone else takes. Will you travel for your business? Make sure you consider that too.
For illustrative purposes, let’s say you want to have an annual salary of 100k, you’re going to take 2 weeks’ vacation, 5 sick days, 10 holidays, and allot 7 total days for business travel. That means you’re going to work (assuming an 8 hour workday and 260 working days in a year) 1,792 hours in a year.
Don’t forget that only half of those hours are going to be billable. So you’ll work 896 billable hours in a year.
If your costs are 100k in salary and 20k in expenses, you need to bill at least $134 per hour to break even. If you’re like the average middle-class American (~25% in taxes), this means you’ll take home about $1440 a week.
If you run the same business as a 1099 employee, your expenses may be about 5k lower, but you’ll pay about 40% in taxes, which means for the same scenario, you’ll only take home about $1330 per week.
Reality Check Time!
Be realistic when you’re figuring out your hourly amount and ask around to see what others’ hourly rates are. Don’t assume that you’ll be able to bill a full 50% of hours your first year. Consider carefully if the salary you’ve estimated is high enough to meet your expenses. Now cut it by 30%. Is it still enough? If not, you may need to increase that hourly rate. Don’t go above what your market will bear, but don’t sell yourself short either. At the very least, knowing what your bottom-line hourly rate is will give you the confidence you need to ask for it, and let you know how low you can go when you negotiate.
Bad Debt and the Hard Truth
The final piece of advice I have for you is to plan for that bad debt I talked about earlier. It will happen unfortunately. Whatever your hourly rate works out to be, you may want to add about 20 hours of it back to your expenses and recalculate a new hourly rate. But to help keep it low, require some amount of payment up front before you begin a project. In the last 3-4 years, it’s become harder to get paid for some reason. I have my own theories for why this is, but I’ve found that many companies are delaying payment for as much as 90 days, and some others are not paying at all. While you’ll have contracts that say they need to pay you (if you took my advice on an attorney in step 1), it is so costly to pursue unpaid bills that it’s rarely worth it.
Self-Employment is the Best Decision I Ever Made
It’s a lot to take on, and it can be a scary leap to make. But the soft benefits of self-employment or freelancing are amazing. You can take time off whenever you want, work any schedule that matches your needs, spend time with your kids and family, travel on the company dollar, and make all of your own choices. When you get established, you can work on the projects you prefer, with the clients you like, and without the hassle of coworkers or TPS reports. Owning my own business puts me in a better position to talk with clients because I truly understand their daily grind; I know the other things they are dealing with day-to-day. And on that rare occasion I find myself missing a family event or working on a holiday weekend, I know that what I’m working on is going to benefit me personally, and that makes it easier to bear.
If you’ve decided to make the leap to self-employment, hopefully you’re better equipped for having read this. I wish you the best of luck, and much success!
Photo credit: https://www.flickr.com/photos/132737302@N08/, used under Creative Commons license