Financial planning is important for anyone, but freelancers have specific challenges when it comes to saving for retirement and managing cash flow. In our most recent Team Up Research, freelancers rated “inconsistent income” as the most significant challenge. The good news is that this same survey found that making more money was one of the top reasons people freelanced.
So, how do you manage income fluctuations and still manage to save for the future? We sat down with Peter Bourg, a certified financial advisor with Ashford Advisors, to find out.
Peter talked about four areas of focus that freelancers should be thinking about when it comes to financial planning.
1. Creating A Cash Flow System
One of the most important things you can do as a freelancer is to create a cash flow system to manage your income and expenses in a way that helps you achieve your financial goals.
Peter suggests putting all your income into one “holding tank” account. From there, you send money to two different sides of your financial life:
- Lifestyle – includes an account for monthly fixed costs like your mortgage or rent, car payments, and utilities, as well as an account for variable expenses that come up occasionally, like summer camps, travel, or haircuts.
- Wealth-Building – includes places you apply money to grow it into more money, such as creating equity in your home as you pay down a mortgage or retirement accounts, which we’ll talk about below.
Peter’s biggest advice here? Automate it! “We all have busy lives, so it’s important to make it systematic and automated, where you don’t have to think about it.”
2. Saving for Retirement
If you’ve ever worked for a company that offers a 401k program, you know that you select a certain amount of your income to be taken out of your paycheck every month so you’re able to save without really having to think about it.
If you’re a freelancer with a 1099 income, you must look at other retirement savings options. Firstly, you’ll be eligible for Social Security just like a W2 employee, but your contribution will be taken out when you file your taxes. For most people, that alone will not be enough.
As an alternative to a 401k, freelancers have three options:
- Traditional IRA – this can have some tax advantages when you contribute, but disadvantages when you take money out. It’s also subject to a maximum yearly contribution.
- Roth IRA – this has tax disadvantages when you contribute, but advantages as it grows and you take money out. It’s also subject to an income limit and a maximum yearly contribution.
- SEP IRA – this plan allows you to contribute more than the other two IRAs, up to 25% of what you made up to a certain amount. Like a traditional IRA, there are tax disadvantages when you withdraw.
For these three options, it’s important to talk to your CPA regarding the tax implications. There may also be limitations based on your spouse’s retirement plan. You can find more detailed information at irs.gov. Peter also cautions,
“You want to make sure that you’re balanced in where you’re saving because you don’t want to save too much in one bucket and not have access to money for other opportunities in your life.”
Here are more ways that freelancers can plan for retirement and build wealth.
3. Other Wealth-Building Strategies
In addition to a retirement account, there are other ways to build wealth for the short, medium, and longer term. These include:
- Investing in yourself - Spending money on improving your skills through courses and workshops, attending networking events, or even hiring someone to do your administrative tasks so you can focus on your work are all ways to help increase your earning potential.
- Investment account – Unlike retirement accounts that are locked up, it’s easier to access money from an investment account without taxes or penalties (although there may be some taxes to pay on gains).
- Cash-value permanent life insurance – In addition to providing a death benefit when someone passes away, there’s a cash value bucket that can be accessed for an unexpected need or opportunity.
- Real estate – If you own a home, you’re already doing this by paying the mortgage each month. Either you’ll pay it off and can live mortgage-free or you can sell it and, hopefully, get more than you paid for it back. Purchasing rental properties can be another way to have retirement income.
- Savings account – A savings account is especially useful for freelancers with inconsistent income. Having a savings account with at least six months’ worth of expenses saved can make money accessible to cover months when you bill less or in case of unexpected expenses.
In another blog, we went over more ways that freelancers can ride the waves of fluctuating income.
4. Getting Insurance Protection
The final area of financial planning that Peter suggests freelancers consider is insurance. These are ways to help protect yourself, your paycheck, and your business. In fact, there are so many ways to do this, that we’re going to do another article just about insurance.
Here’s a brief overview of the types of insurance a freelancer should consider:
- Health insurance – If you have access to a company-sponsored plan through your spouse (or your parents, if you’re under 26), that’s likely the best route. Other sources include The Health Insurance Marketplace®, a health insurance broker, or trade associations.
- Disability insurance – Protecting your paycheck and income through disability insurance can help you if you get sick or hurt and can’t work.
- Life insurance – This provides a financial safety net for loved ones when the policyholder dies. There are also uses for life insurance while you’re alive.
- Umbrella insurance – This is extra liability coverage that goes beyond your existing homeowners, renters, or auto policy to protect you from liabilities that exceed the amount covered by these other policies.
- Professional liability insurance – Also called errors and omissions insurance, protects professionals against negligence, mistakes, and other claims initiated by their clients.
Freelancers have unique financial considerations—and the financial world can be overwhelming and full of advice (not all of it correct). Putting good systems in place, taking a holistic view of your financial health, and finding a trusted financial advisor who can provide solid advice as life circumstances change are all ways to help set you up for success. For a more in-depth review on insurance, check out our blog on: 5 Types of Insurance Freelancers Should Know About.
Peter Bourg is a Registered Representative and Financial Advisor of Park Avenue Securities, LLC (PAS). Securities products/services and advisory services are offered through PAS, member FINRA, SIPC. Financial Representative, The Guardian Life Insurance Company of America® (Guardian), New York, NY. Park Avenue Securities is a wholly owned subsidiary of Guardian. Ashford Advisors is not an independent registered investment advisor nor an affiliate or subsidiary of PAS or Guardian. Ashford Advisors is not registered in any state or with the U.S. Securities and Exchange Commission as a Registered Investment Advisor. CA License #0I07706; AR Insurance License #10381689. No compensation has been provided by the adviser in connection with this interview.