Once relegated to the back of the employment short list, freelancing has seen a positive resurgence in interest as a viable means of making a living. With the coronavirus pandemic, freelancing and remote working became not just a desirable option but very high in demand. In fact, most people don’t realize that, aside from the flexibility that’s inherent in a freelancing career, freelance professionals can save money in many ways that normal employees can’t. But just as there are pros and cons to any job, freelancing may not be for everyone.
What is a freelancer?
Freelancers are independent contractors who work for per-task or per-project fees. Typically this is short-term work, but some companies may outsource their in-house jobs to freelancers on long-term contracts. A freelancer is not an employee of the firm where he or she is employed; instead, freelancers are commonly self-employed individuals who freelance to supplement their standard income or make their living primarily off their freelancing wage.
Many freelancers work in creative or service fields, such as:
- Graphic design and illustration
- Marketing
- Writing, editing and proofreading
- Photography and videography
- Administrative
- Software programming and website design
- Sales
Other independent contractors can also count as freelancers, such as ride-sharing and delivery drivers who work through Uber, Lyft, Grubhub and Doordash.
The benefits to freelancing
Freelancing is in high demand for a reason: not only do freelancers have extra job flexibility, allowing them to complete tasks or jobs outside normal work hours, freelancers also have the added benefit of working from home – or wherever, really. Gig work can often qualify as freelancing, although most freelancers work online.
The benefits to freelancing are more than that, however. As independent contractors who work per-contract jobs, the IRS treats freelancers as self-employed individuals. This means that freelancers are essentially running a sole proprietorship, a business. And as you may know by now, business owners have perks available to them that regular employees do not.
Benefits in short:
- Work schedule flexibility
- Location flexibility
- Work-life balance
- Supplemental income
- One-person business and all that entails
The drawbacks to freelancing
On the other hand, freelancing may be too flexible and inconstant for some. Freelancing is contract work, and income often comes and goes in cycles. This may be seasonal or monthly, but frequently freelancers have to budget in a stricter way than a 9-to-5 employee. Company employees can rely on their regular paycheck, but if a freelancer has used too much money one week and new work has slowed to a trickle, the next paycheck may be long in coming.
Another issue derives from being a self-employed individual. Being self-employed, your income is paid in gross by your clients. No taxes are withheld for you. That means the IRS expects you to pay your own employment taxes each quarter, to the tune of 15.3% of your estimated earnings. Then, on top of that, you should expect to pay income taxes on your own, an amount that varies depending on the amount you make.
Many freelancers make the mistake of not withholding their own taxes as they get paid, which can not only result in a highly unpleasant, surprise tax bill but cause problems with cash flow. A good rule of thumb is to set aside 30% of your freelancing income in a separate bank account and mark it as tax money. A trustworthy finance software such as QuickBooks or Xero can also help with the calculations.
Another drawback is the lack of access to employer benefits. Permanent employees can qualify for employer-sponsored retirement accounts with employer matches and multiple types of employer-provided insurances. Freelancers do not qualify for unemployment benefits under the U.S. Department of Labor’s unemployment insurance program either.
Drawbacks in short:
- Potentially inconsistent income flow
- Higher individual tax burden
- Lack of access to employer-sponsored benefits
- No unemployment insurance
Is it worth it to freelance?
After all those negatives, it may seem like freelancing is risky and offers little to balance out the disadvantages. However, rather than looking at freelancing as another job, view it as running a sole proprietorship. You may only be a one-person show, but oftentimes you can expand your freelancing into a larger-scale, multi-person business – which means freelancing is the precursor to launching a business.
How freelancers can save money
One of the beautiful aspects of freelancing is its inherent flexibility, meaning you can do freelance work as a side hustle or as a full-time money-maker. No matter the type or amount of work, you’re running a small business.
Launching a business is one of the main pillars for building wealth, and so freelancing is also a method for building wealth. While the drawbacks can seem daunting, the perks available to independent contractors may also outweigh them for some.
As self-employed individuals, freelancers can benefit from deductions and business advantages that tip the balance in their favor. For example, freelancers are responsible for paying their own employment taxes. This means that, instead of sharing the employment tax with a company, you’re essentially paying twice as much than if you were a salaried employee. However, to balance that out, the IRS actually allows you to deduct the employer-equivalent’s share from your net income. This means you will pay lower income taxes.
More deductions that many freelancers can take include the home office deduction and business-related expenses. So long as you use your home office regularly and for work, you can deduct the value of your monthly office expenses from your income, which can substantially reduce your tax burden. In this case, such expenses include the portion of your mortgage or rent and utilities that correspond to your office space, as well as the cost for work-related items like a desk, chair or new computer. You may also deduct the cost of healthcare insurance premiums, plans for which are usually most affordable through the Health Insurance Marketplace.
While self-employed individuals can’t contribute to employer-sponsored retirement accounts like a standard 401(k), they do have the option of opening a self-employed or individual 401(k). Individual 401(k) accounts operate similarly to a standard 401(k), with one crucial difference: because you’re acting as both employer and employee, you can contribute more each year than with any other tax-advantaged retirement account.
Employees under age 50 can contribute a maximum of $20,500 per year for 2022, while employers can contribute up to 25% of compensation. This means a self-employed individual can put a maximum of $61,000 for 2022 into a 401(k) – three times as much as a regular employee! On top of that, you can generally deduct those contributions from your income taxes, thereby doubling the tax benefits in one go.
Bottom line
Freelancing means going the self-employed route and may not be suited for everyone. However, freelancers can benefit from great work flexibility and business advantages that a regular employee may not. Major disadvantages stem mostly from the inconstancy of no regular paycheck, while self-employed perks can amount to substantial long-term savings. Freelancers can save big on taxes through heavy deductions and retirement contributions, but they can also pay a heavier price when it comes to health insurance. Freelancing is best viewed as a precursor to launching a full-sized, multi-employee business, and for the right person, could be a great way to build more wealth.
