Taking Care of Your Accounts as a Freelancer
Most freelancers are not interested in bookkeeping. Freelancing allows freedom from structures, systems, and processes; it's attractive because it allows you to focus on the work and not the surrounding administrative necessities. So, as a freelancer, you will likely need a firm resolve to apply yourself to your accounts.
Keeping your accounts in order can give you a sense of virtuousness and satisfaction and, if you keep on top of them, they won't be too onerous.
Have a look at the IRS Web Site, listed at the end of this checklist. You will find a lot of information there about starting a business on your own, including an online class with lessons on various aspects of taxation. Also, the U.S. Small Business Administration (SBA), an independent agency of the federal government, offers assistance and counseling to small businesses, and has field offices in communities throughout the United States.
If you browse the Internet, you will find many software packages designed for sole proprietors and small businesses. Many offer a free-trial period. Pick some and experiment with putting some fictitious figures in them. If one is more intuitive and easy to use than another, you may want to purchase it. Go for the least complicated version you can find or simply use a proprietary spreadsheet to capture all your financial transactions. It is just a matter of practice.
The only way it will become easy for you is if you develop a discipline and a routine. When you come home after an assignment, make a habit of opening your accounting package and recording your expenses. File your receipts and issue an invoice if the work has been completed. Note the amount on the invoice and when it was sent. This way, you can keep track of everything without getting bogged down in paperwork once a year.
The only way too protect yourself is to be informed. Go onto the IRS Web Site and follow the business links. You will pick up the essential information this way. If you are confused, use the helplines or consult with an accountant to make sure you have not missed anything.
Before you even contemplate setting up an accounting system, you need to decide what kind of business structure you are going to incorporate, as this will have a bearing on the accounting system you adopt. Here are three of the most likely options.
- Sole Proprietorship: This is the most usual business structure for a freelancer, and the most simple. It indicates that you will trade under your own name—or a trade name—and that you will be responsible for your own accounts, either personally or with the help of a professional accountant.
- Partnership: This is a type of business structure you might adopt if you were going to work alongside someone else in a formal arrangement. This is a legal entity so you will probably want a lawyer to draw up a partnership agreement. You will also need to obtain an Employee ID Number (EIN) from the IRS. An advantage to a partnership is that it allows pass-through taxation, meaning that the partnership is not taxed as an entity, instead, partners can report profits and losses on their individual tax returns, avoiding double taxation. You need to be a little bit cautious, however, when entering this kind of arrangement as both you and your partner or partners are collectively liable for the debts of the partnership—so if one of you defaults, the others will be responsible for honoring the entire debt.
- Limited Liability Company: A Limited Liability Company (LLC) is a viable alternative to the structure of the sole proprietorship and the partnership. Like a corporation, all LLC members are protected from personal liability for debts incurred by the company. Individual LLC members can lose only the money they have invested in the LLC. And like a partnership, it allows pass-through taxation and requires less paperwork and administration than a corporation.
Whichever structure you settle on, remember that you will be responsible for paying your own taxes. You will need to pay quarterly estimated taxes—and do not forget to include your self-employment tax—to the IRS and to your state revenue department.
Now that you have decided on your business structure, you need to get down to the business of setting up a system to capture all the information you need as easily as possible.
If you have decided on a sole proprietorship, you will not have to file any paperwork with your state or the IRS, and you need not obtain an employee ID from the IRS unless you hire employees. You will be required to file an annual schedule C with your U.S. individual income tax return 1040.
If you have decided on a limited liability company, you will need to file Articles of Organization with your state's Secretary of State or Department of Financial Institutions and pay a filing fee. (There are agencies that will do this for you at little expense.) Generally an LLC with only one member will file a schedule C with its individual tax return. Most LLCs with more than one member will file a partnership return form 1065. Again, unless you have employees, you do not need an employee ID.
If you have decided on a partnership, you do not need to register with your state or the IRS, but you will need to obtain an employee ID number from the IRS. You will have to file an annual form 1065 with the IRS.
Whichever of the above you have decided on, you will need to check with your state to find out what tax forms it requires you to file.
It is important to set up a separate bank account so that your personal and business moneys do net get confused. If you do this, you will be able to see the ebb and flow of your finances and reconcile your accounts at any time.
In the spirit of keeping your personal and business finances separate, set up a company credit card so that you do not have to trespass on your personal credit rating when incurring business expenses.
Good organization is the key to good accounting practice. Putting things in their proper place and being able to retrieve them again is essential. Keep and file all your receipts. The IRS may want to scrutinize them some day.
Using a spreadsheet or accounting package designed for small businesses becomes easy with practice and is invaluable for keeping track of your finances. Make sure you discipline yourself to enter every single detail of your financial transactions. This is the most important aspect of taking care of your own accounts. Make sure you regularly make backups, otherwise you will understand the tediousness of re-entering every transaction at one stretch! By using a spreadsheet or simple accounting package, you can:
- create invoices using a template you create or select from those offered in the accounting package. Make sure you send out your invoices promptly and that they contain the details of the work you have done along with your business expenses and mileage. You will be able to see whether there are any unpaid invoices which you should chase after the agreed payment period has elapsed;
- keep track of your income and expenses. Compare your business activity from month to month and project into the future. Record all sales or payments as they come in along with any money from the sale of business assets. Also, record all purchases of business stock and supplies. If you take money from the business, make sure you account for this as well as any that is returned to the business from, say, an insurance policy. You may take out indemnity insurance to protect you from unforeseen calamities in your work. Do not forget to record this as a business expense along with any accounting costs or other professional services;
- calculate your tax liabilities. If you have employees you will need to deduct and pay withholding tax from their wages and salaries, and you will have to pay unemployment insurance for them. If your state has a sales tax, you will also have to pay that regularly. These all need to be accounted for, and the funds set aside to pay them.
Whatever you do, keep and file all paperwork relating to your business, and record everything in your spreadsheet or accounting program so that it is up to date at all times.
As a freelancer, you are responsible for paying the various taxes you are liable for on time. You must make it your business to ensure that you are properly informed of what taxes you own and when you owe them, or you will be subject to penalties.
A great deal of time can be spent by the uninitiated on getting to grips with technology. When faced with the apparent complexity, these people often resort to a paper approach, which defeats the advantages of a good accounting package. Spend time getting to know the package you have chosen and perhaps invest in a short course to acquaint yourself with its functionality. When you have learned a particular function, write out a simple crib sheet for yourself so that you can refer to it in the future.
Missing a deadline or a payment due to the pressure of work or a lack of resources is costly yet commonplace. Be aware of the deadlines and the financial obligations you have to meet and note these in your diary well in advance of the due date. If you think you are going to miss a deadline or a payment, call the appropriate office and discuss it with a representative. You may be able to negotiate an extension or a special arrangement—but make sure you get a reference number or the name of the person you spoke to for the call.
Many freelancers think that they will be able to take care of their accounts and calculate and submit their own tax returns. However, if you are not informed or interested in this activity, it is likely to get pushed to the bottom of your list of priorities and become an insurmountable burden. It is much better that you consider spending your time doing what you do best and hire a professional accountant to do this work for you!
Edwards, Paul,
Sitarz, Daniel,
Epstein, Lita,
Flannery, David A.,
Pinson, Linda,
Carter, Gary W.,
Internal Revenue Service: www.irs.gov
U.S. Small Business Administration: www.sba.gov
All Freelance: http://allfreelance.com/finance.html
BusinessTown.com: www.businesstown.com/accounting/basic.asp
My Own Business: www.myownbusiness.org/s7
FindLaw: http://library.findlaw.com/2001/Jan/18/130002.html
BizFilings: http://open.bizfilings.com/products/articles