The Role of Freelancing and Additional Responsibilities
When you become a freelancer, you will be responsible for two roles, the employee role and the employer role. Without an actual human resources department, you will be responsible for your working hours, the amount of work, your own taxes, benefits, and your future.
01 of 04: Purchasing Health Insurance
Although you may want to skip this expense if your business management costs are already high, health insurance is not something you can forgo when you are self-employed. The risks of falling into significant debt or even bankruptcy due to medical bills are too great.
Fortunately, there are many plans available through various sites across the country, and you are likely to find at least one that fits your budget. You may find it overwhelming to understand the differences between the various plans, but knowing the factors to consider can make your decision easier:
- Provider: If you are married or at least over sixty, consider enrolling in health insurance through your spouse’s employer or the Medicare program for seniors. If these options are not available, look for a plan through the health exchange or “marketplace,” a service run by the government that helps you find and enroll in a plan from a private insurance company. You can also purchase a plan directly from a private insurance company.
- Plan Type: High-deductible plans require you to pay a larger amount out of pocket before insurance starts paying on your behalf. These plans are a good option if you are relatively healthy as they offer lower monthly premiums, allow you to save in a Health Savings Account to increase your savings, and protect you in medical emergencies. However, you may want to choose a traditional plan with a minimum out-of-pocket expense if you have a condition that requires frequent doctor visits.
- Costs: Consider the monthly premiums, along with the out-of-pocket costs such as the minimum deductible, specific percentage fees, and co-insurance, to determine whether the plan is moderately priced for you. In 2021, high-deductible plans set the minimum deductible at least $1,400 and no more than $7,000 for an individual. In 2022, the minimum deductible should be at least $1,400 and no more than $7,050 for an individual.
02 of 04: Creating a Tax Reserve
Taxes are another area where you are on your own when you become a freelancer. When you start your journey, you won’t have a payroll officer who automatically deducts federal income tax and FICA taxes (Social Security and Medicare taxes) from your paycheck.
Instead, you will need to take on this role as a self-employed individual and manually set aside part of your income each month to pay income taxes and self-employment taxes, which is the equivalent of FICA taxes for self-employed individuals.
This process requires you to calculate the exact amount you owe using Schedule SE from Form 1040. You will pay a self-employment tax rate of 15.3% (12.4% for Social Security taxes and 2.9% for Medicare taxes) on 92.35% of your net earnings from self-employment.
You generally must pay these estimated taxes quarterly to the federal tax administration – on time and in full – to avoid penalties when filing your tax return. You can also follow these tips to ensure you pay enough in estimated taxes on time:
- Treat taxes like an expense: Set aside money each month to cover your taxes.
- Exclude
- Other taxes: Consider local and state taxes if applicable.
- Keep records: Document your income and taxes in case you are audited.
- Get help: You may want to use accounting services for the first year you pay self-employment taxes.
Note: Self-employed individuals pay 15.3% in social security and Medicare taxes; while traditional employees pay only 7.65% in FICA taxes because the employer pays the other half.
03 of 04: Saving for Retirement
As a self-employed person, retirement contributions will not be automatically deducted from your paycheck and transferred to a 401(k) account. You will be responsible for setting up a retirement account and then creating a savings plan for retirement. The earlier you start saving, the greater your chances of retiring comfortably – you won’t have extra help from matching employer contributions.
There are retirement accounts specifically for self-employed individuals that provide tax benefits. To reduce your tax burden in your prime working years, take advantage of tax-deferred retirement accounts that do not require you to pay taxes until you withdraw them at retirement. These accounts include pre-tax plans like individual 401(k) plans and traditional SEP-IRAs, which can lower your taxable income when you contribute to them, as well as accounts that you fund with after-tax dollars (like Roth IRAs). Generally, withdrawals from Roth IRAs are not taxed.
You may also want to open a brokerage account to enhance your saving potential, but remember that your investments may generate taxable earnings, and when you sell them, there may be capital gains taxes. It’s a good idea to talk to a financial advisor to find out exactly what you can do to ensure you’re saving enough to meet your retirement goals.
04 of 04: Budgeting for Variable Income
The most challenging requirement that comes with self-employment is managing your money wisely when transitioning from a steady paycheck every two weeks to an irregular schedule of unexpected payments. The biggest challenge when you are self-employed is not knowing how much income you will earn each month. So, you should be cautious and plan for the worst-case scenario. The easiest way to ensure financial security in self-employment is to take on the role of an accountant and create a basic budget.
You can create this monthly spending plan in the same way you would create a budget based on steady income. The difference is that when listing your income, you should use the income you receive from your lowest earning month throughout the year as your baseline income.
In addition to creating the budget, you can take additional steps to sustain your variable income:
- Separate accounts: Open a business account to keep your business expenses separate from your personal expenses.
- Save proactively: When your business is thriving, put as much money as possible into savings to help you weather a potential future downturn.
- Make expenses flexible: Adjust your financial situation so you can scale back on services when needed. For example, avoid contracts that you must pay to cancel. Steer clear of hiring full-time employees and stick to occasional freelancers.
- Delay large purchases: If you have just started working for yourself, you may want to delay the purchase of a new home or car so that you don’t have a huge payment looming over you.
If you budget carefully and save consistently, you should be able to ride out months when your income is below normal. As time passes and your business stabilizes, you may not need to be as frugal with your monthly spending.
Source:
https://www.thebalancemoney.com/self-employment-taking-care-of-yourself-2385845
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