When the average person heads to work every morning, they come into an office paid for by their employer and sit down at a workstation furnished by their employer. Their pay is calculated and their paycheque arrives on schedule, with no extra effort on their part. They likely have access to things like an employer negotiated health insurance package, a retirement account, and even small things like free bagels in the break room. None of these are available to you as a freelance contractor.
While there are many advantages to choosing freelance, it’s important to remember that you’re essentially a business owner–even if you don’t think of yourself that way. And when a business sets prices, they have to keep their overhead in mind. Otherwise profit is not only elusive, it’s just a big, blurry unknown.
Here are some example items based on some of my expense averages:
#1 – An average monthly business expense rate of $595 in the last 6 months
#2 – A monthly home office claim of $125 per month(1)
#3A – Invoice fee processing average of 15% per dollar earned on UpWork(2)
#3B – Invoice fee processing of 2.9% + 30¢ per transaction on Wave
#4 – If you’re based in the US/a US citizen: 15.3% minimum freelance tax (paying both employee and employer share of social security and medicare taxes), not including any state taxes.(3)
These calculations do not include costs that are more difficult to assess such as: health insurance/expenses (which vary wildly), lack of fringe benefits, and various opportunity costs.
Expense application example:
At the end of the day, every $20 I earn immediately has a deducted value of $3 on UpWork or 88 cents on Wave. The remaining $17 or $19.12 has my expenses deducted (30% to 40% on average, so let’s say 35%). That leaves $11.90 or $12.43. From that, a final minimum tax of 15.3% is deducted, leaving $10.08 or $10.53 as my effective “take home pay”–a loss of between 50.4% and 52.6%. Meanwhile, your employer, by choosing to go with a freelancer, is saving themselves the cost of:
- Your workspace and equipment (and associated amortization)
- Your payroll processing fees
- Your payroll taxes
This list is not comprehensive–it does not mention the more “difficult” to determine savings for employers such as miscellaneous fringe benefits.
How to track your expenses
Tracking with a spreadsheet
I’ll make this one easy for you: Here’s a handy dandy Google Sheet you can use to track your income and expenses. It’s plugged in with a variety of sample data to give you an idea of what to track and how to track it (also so the formulas can work without generating an error). If you’re exceptionally data minded, you could possibly use a tool like Zapier or IFTTT to auto-populate it with information. I personally find it easier to track via web apps and then plug the info in manually on a quarterly basis.
Tracking with web apps
If you go looking, you will discover there are approximately a million pseudo-accounting web apps vying for your business. The industry heavyweight, Intuit, owns a lot of them. Of all the Intuit products, I like Mint the best. Mostly because it allows you track so many different products, including your basic credit cards and bank accounts, to investment portfolios from retirement accounts and IRA services offered by Wealthsimple or Wealthfront to the automated micro-investment app Acorns. You can do things like observe your net worth over time (if you’re a charts nerd) or do some in depth budgeting.
Of course, Mint doesn’t do anything like payment processing or invoicing. This is another sector that has endless options, but if you’re looking for something that does a little bit of both expense tracking and invoicing and payment processing, I highly recommend Wave.
Here’s what I like about Wave:
- Easily customized invoices and estimates
- Easily managed client records
- Clients can store payment info
- Clients can pay directly by credit card (fee processing of 2.9% + 30¢ per transaction)
- You can bill in any currency
There’s a lot more options in Wave that I don’t take advantage of, such as expense tracking (you can sync your bank accounts) and recurring invoices (for folks who provide flat rate services). The very best part about Wave is that all the features I’ve mentioned so far are free. You can get even more stuff, like payroll, bill pay, and other higher level accounting and support with the paid version.
After all that, how do you set your rates?
The answer is: it depends on how much profit you want to make and how much your skills and time are worth to you and to the market. Your profitability is generally a matter of preference, so let’s move on to determining your skill/time value.
Figuring out what your skills are worth can be complicated. Tasks that fall to freelancers generally fall into two categories: work that people don’t like to do and work that people don’t understand how to do. I recommend doing some research. Check out freelancer marketplaces like UpWork and freelancer and see what similarly skilled folks are charging for their services. Make sure to take into account the other freelancer’s location and currency conversion when deciding whether their situation is comparable to your own.
When it comes to quoting, whether hourly rates or fixed price, determine a high goal and a basement price. Ideally you would only accept your basement price on an exceptionally large or valuable deal. Obviously some pricing consideration can be given when it comes to a client who’s willing to commit (in writing) to a large scale project. If you do fixed price work, determine a minimum viable project value and don’t submit proposals for less than that.
(As an aside: A general rule of thumb would never be to work on contingency or for a stake in a “growing company”. If a company can’t put together enough starter funds to pay you, then it’s almost certainly not one worth working for.)
How do I know I’m doing things right?
At the end of the day, ideally being a freelancer should give you a sense of control over your own destiny. After all, freedom is one of the biggest benefits of this work style (even if it is just another word for nothin’ left to lose). If you feel stressed, overworked, and underpaid while freelancing, it’s time to re-evaluate what you’re doing. You’ll almost never be in a position in the traditional working world to set your own wages, so feel free to experiment. See what works. Setting your prices high might mean less work, but it might also mean you attract less “price-sensitive” clients, who can be an enormous stress with little payoff.
Remember: it takes time for a business to become profitable and there will be a lot of missteps when you first begin. The best thing you can do is keep good records, set realistic goals, track your progress, and remember to take breaks and celebrate your successes. Good luck!
- Using the “regular method” of percentage of home used for business.
- Upwork fees: 20% of every dollar earned for the first $500.01 of any contract, $500.01 to $10,000 costing 10%, and $10,000+ costing 5%. So for the purposes of this calculation, the average of 15% is used.
- “If you’re self-employed, you pay the combined employee and employer amount, which is a 12.4 percent Social Security tax on up to $118,500 of your net earnings and a 2.9 percent Medicare tax on your entire net earnings” – Social Security Administration