For some, freelancing represents a means to make a little extra cash on the side doing something they enjoy or excel at. For others, the ability to fully transition to a life of freelance work means the recognition of a life-long goal driven by passion and skill. If you fall into one of those categories, navigating your new-found income and its relationship with your taxes, personal finances, and ultimately credit can seem complicated.
Regardless of where you are in your freelance career, mismanaging your personal and professional finances, and the relationship between those two, can lead to significant issues, making it imperative that you avoid these five freelancing mistakes.
1. Mixing Personal & Business Finances
It may not seem like you need to instantaneously separate your personal and business finances – you’re only accountable for your own paycheck and expenses, not that of employees. But even if you’re currently operating as a sole proprietor, keeping business and personal finances separate makes tax time easy and protect your personal assets.
The best way to do that it to establish your business, opening a bank account in the name of your business, and in some cases, a business credit card. Further, establishing yourself as an LLC can help protect your personal finances should you run into financial issues in your business.
2. No Payment Trail
You’re getting paid either way, so what does it matter if you officially pay yourself. And how do you even go about doing that if your income is based on payment from a variety of sources? When you go to apply for credit cards, loans, etc., you, like most other working individuals, will likely need to show proof of income, and that can potentially require you to show a pay stub – difficult if you don’t receive one.
Many freelancers choose to get around this by setting up a company (which helps you avoid mistake #1) and paying themselves as they would any other employee. In this case, you have a steady income that flows from your business to your personal account.
3. Mismanaging Earnings
When you have a regular paycheck, it’s easy to budget – payments are weekly or biweekly and typically for the same amount each period. When you transition to freelance as your main source of income, that shifts, and sometimes your earning will fluctuate based on workload. Over time, that habit can lead to reliance on credit cards to pay bills, and, if done frequently, an escalating debt-to-income ratio, which is not good for your credit.
Sometimes this can lead to overindulgent spending, particularly for those not used to seeing that type of cash flow coming for a single project or assignment. For that reason, it’s smart to consistently account for all bills and financial needs, and then, after you’ve budgeted for that, figuring out what to do with what’s left – though of course, some of it should make it to a savings account.
4. Not Paying Your Taxes
Most seasoned freelancers recommend paying taxes on a quarterly basis, but if you find that the next year comes and your tax bill is substantially (i.e., scary) high, you will need to pay up or agree to a payment plan. As long as you do that, you should be able to avoid any type of negative credit impact, but take heed, if your taxes go unpaid and result in a lien, that will be on your credit, impacting your ability to secure an auto loan, mortgage, or other types of finances – a tough thing to get past if you’re trying to grow your business.
5. Ignoring Their Credit Score
Though this may be obvious, it’s important enough to mention. If you’re established and don’t intend to purchase a home or car any time soon, it may seem like a credit score is that last thing you need to worry about – you have a burgeoning freelancing business to account for after all, right?
Unfortunately, if you do need a personal or business loan at some point, or otherwise must engage in some activity that requires you to show that “you’re good for it,” then it will be your credit score that indicates reliability. For that reason, it’s imperative that freelancers do everything that can to build a solid credit profile that shows they are worthy of loans, investors, etc. Don’t ignore your business credit score, either; potential clients can check it and possibly be turned away by bad credit. Check both your scores for free with Nav.
Becoming a freelancer may free you from the oppression of a full-time gig under someone else’s watchful eye or the confines of 9-to-5 work day , but that freedom is not without cost. The trade off is a heavy reliance on your credit score and thus will require you to monitor and maintain your credit to secure your future.
This article was originally written on July 23, 2018.
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