By ALLISON KADE
Three and a half years ago, when I resolved to quit my day job as an editor at a web startup to become a fulltime freelance writer, I kept imagining I might go months and months without any income.
I created a special in-case-I-fail-at-freelancing savings fund, which could support six months of my living expenses before I even needed to tap into my emergency fund. I had a few gigs lined up before I left, but what would happen after my projects ended? If I made money this month, would I be able to make money next month, too?
In my opinion, the hardest part of working for yourself is the unpredictability (and the quarterly estimated tax payments). The feast-and-famine cycle can be exhausting. So how can you budget and save if your income is irregular?
How much should you save? What the experts recommend.
According to Certified Financial Planner™ Alan Schoenberger, the first step to successfully budgeting when you have variable income is to create a list of all your expenses.
"It doesn't matter if you use an app, Excel spreadsheet or the back of a napkin. Whatever works for you," he says.
Once you have a comprehensive list, single out the necessities, such as housing, food and insurance. And don't forget to set money aside for those pesky quarterly estimated taxes, lest you get hit with a gigantic tax bill down the road.
On months when you're doing well -- your income exceeds your total expenses -- aim to save the difference. Let's call that your reserve fund. Financial planner and Registered Investment Advisor Jaycob Arbogast says, "Even if you have a huge payday one month, live like it's any other month and save the difference."
On months when you don't make as much money, you can use your reserve fund to pay for necessities. Schoenberger says there's no set amount that you should aim to hold in your reserve fund, but the more erratic your income from month to month, the more you should set aside. Six months of expenses is a good general benchmark, he says. Once your reserve fund is high enough, you could use the money for savings goals like a new car or home.
Importantly, this reserve fund shouldn't be confused with an emergency fund. "An emergency fund is if you lose your job completely, your car blows a gasket or some other serious situation... The reserve fund is just for those slow months when your income dips below what you expected," Arbogast says.
Schoenberger suggests that people with irregular income save up double the normal recommended amount for emergencies -- 12 months instead of the usual six -- to account for the additional income volatility compared to a traditional 9-to-5.
One way to make your budget more predictable is to make your income as regular as possible. "When I first started financial planning, I charged an hourly fee," Arbogast says. "That ended up being very irregular because not everyone would need my help every month, so I changed my fee to a monthly retainer for individuals. That allows me to plan ahead more easily."
I asked other freelancers and small business owners to share their best tips and tricks -- and how they grapple with the cycle of feasts and famines:
1. Pay yourself a biweekly salary.
"Pay yourself an honest salary and keep the rest of the income in a business account that can be used to smooth the famines or help grow your business through valid business expenses. I have an annual salary that I pay biweekly.
"To figure out an appropriate salary, I calculated my average salary for the past three years before becoming a consultant. I also took into account the overhead I require to live. I built out projected financial statements for my business so I know how much revenue I expect from clients and how much I can allocate to growing my business.
"For retirement, I have a SEP-IRA that I use for business deductions, and I allocate a percentage of my salary to individual investment accounts that will be used for retirement."
-- Joshua Schall, fitness and sports business strategy consultant in Austin, Texas
2. Average out your business income.
"There's an obstacle to budgeting when you live on an irregular income -- what to put in for your monthly income, since it does vary. Your best bet is to take an average of what you made over the last six months and use that.
"During feasts, exercising restraint is the best route to take. Of course, you can and should reward yourself after a good month, just don't go overboard. Maybe a dinner at a nice restaurant will suffice, as opposed to purchasing a 70-inch LED smart TV. During famines, it'll be important to drill down on your personal spending and go with nothing but the necessities. Better times are typically around the corner!"
-- Andrew Schrage, CEO of MoneyCrashers.com in Denver, Colorado
3. Factor in your luxuries.
"Recognize the 'luxuries' that you can't live without. For example, if you love massages and usually get one once a month to maintain your sanity, factor that into your budget every month. Even though it's not a necessity like food or rent, it's necessary to you. This has been major in redefining my monthly budget and even in how I gauge my pricing for customers."
-- Monique Thomas, time management consultant and founder of Smarter App Technologies in New Orleans, Louisiana
4. Think about percentages, not dollar amounts.
"Saving for retirement as a freelancer sounds difficult, but in reality it's not that much different than saving with a regular job. The bottom line is I force myself to put aside a percent of my income every single time I am paid. By focusing on percent rather than amount, I've been successful."
-- Eric Brantner, founder of Scribblrs.com, in Houston, Texas
5. Pursue passive income and high margins.
"My personal finances are geared toward building enough stable passive income (income that's generated by a passive activity such as renting out a property) that can prepare me for retirement and also ensure that I'll be prepared for the next famine, if it ever comes.
"For me, this meant investing in rental properties in markets that provide steady cash flow (I live in Toronto, which has a very unfavorable rent-to-value ratio, so my rental properties are in Atlanta).
"I favor business models that have high profit margins and require minimal overhead. My web properties over the past couple years have collectively generated tens of millions of pageviews, but I still work from a home office and my team consists of remote freelancers that I can scale up or down depending on the business' needs. This wouldn't work for every business owner, but it works for me."
-- Nate Tsang, serial entrepreneur and co-founder of financial education site InvestmentZen.com, based in Toronto, Canada
6. Keep it in perspective.
"Always remember, yes, you could lose a contract. However, a 20-year employee at a Fortune 500 could lose her job today too -- and with it, her identity and legacy. I'm a freelancer; it's my job, my identity and part of my legacy. And guess what? No one can take it away from me. That's more job stability than your parents could ever understand."
-- Chelsei Henderson, freelance writer in the Washington, D.C. area
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