Accounting tips for freelancers

10 Accounting Tips for Freelancers

Startup & Small Business

As the world changes and a growing number of people are forced out of their former careers, many are exploring new ways of working. For some people, freelancing is a great option.

You can work from home, create your own schedule, and gain some control back over your career. But it brings unique challenges. One of the big ones is that you have to figure out the accounting side of things.

Getting accounting right from day one can make a huge difference in how successful you are in your first year as a freelancer (and beyond). To help out those in the early stages of building a freelance business, I talked to my personal CPA (also my mom), Debra Hicks of Pattillo, Brown, & Hill. Here are the most important ten steps to take to get off on the right foot. 

Note: a few of these tips are specific to freelancers working in the U.S. If you live in another country, find an accountant in your own country to walk you through anything specific to your nation’s laws. 

1. Create a Separate Business Bank Account.

Creating a separate bank account for your freelance business is a quick and easy way to separate your personal and business finances. It makes your record keeping easier, and provides a little bit of extra liability to protect your personal assets from business losses.

Consider also applying for a business credit card for the same reason. Logging all your business expenses into an accounting software or spreadsheet is much easier if they’re all in one account.

2. Set Aside at Least 30% for Taxes. 

Many a newbie freelancer has learned about the reality of freelance taxes too late.

In addition to paying federal income tax based on how much you make, you also owe a self-employment tax, and may owe additional state income taxes and sales tax besides. The last thing you want is to realize at the end of the year that you owe more than you saved.

A good rule of thumb is to set aside around a third of each paycheck you receive for taxes (and make sure your rates are high enough that you’re still making decent money after that). But it doesn’t hurt to double-check that number with your accountant, as the percentage a freelancer owes varies based on a lot of factors. 

3. Find an Accountant.

Unless accounting’s your specialty, this is a service worth paying for—at least in your first year.

“Freelance taxes are complicated,” Debra explains. “Hiring someone will help ensure you get all the deductions, which will likely save you money.” And since tax laws vary by state, a local accountant will instruct you in the regional details you need to be aware of, such as whether you need to charge sales tax or if your state has an income tax. 

If you’re the DIY type and don’t want to be dependent on a hired accountant long term, you may be able to find one willing to train you in the first year, so you know how to handle things on your own beyond that. But at least to start, the investment in a good accountant is worth the cost. 

The best place to start looking for an accountant is to ask around for referrals. Someone a close friend or colleague trusts is usually a good choice.

If you’re not able to find someone that way, look up your state’s society of accountants. In your search, pay attention to the distinction between CPAs and bookkeepers. A CPA (which stands for certified public accountant) is beholden to an oversight body. They must meet established educational standards each year to maintain their status, and there’s a system for accountability in place for CPAs that provides more protection to their clients.

Bookkeepers are often skilled as well, but they lack the level of oversight and protection you get with a CPA. You’ll pay less for their help, but you’re taking a risk. “Be leery of just picking a name from a phone book,” Debra warns. If you go with a bookkeeper, it’s best to find someone based on referrals, or that you can track down trustworthy references for. 

Pro Tip: Don’t wait until tax time to hire an accountant. Pay them upfront to provide you some basic training on how to get set up with good record keeping. Most CPAs charge hourly, so if you come to them at the end of the year with no good records and a mess of receipts they have to sort through, you’ll end up paying more. Organized records that provide a simple summary of income and expenses mean you pay less. 

4. Pay Quarterly Taxes.

Freelancers may be required to pay taxes quarterly to avoid penalties. Mark your calendar to make payments on:

  • April 15
  • June 15
  • September 15
  • January 15

In addition to avoiding fees, this will also help you decrease the amount you owe as a lump sum at the end of the year. You can make payments online at IRS.gov or by setting up an EFTPS account.

For first-year freelancers, ask your accountant for advice on what to pay. If you’re in at least year two, you can base your tax payments on last year’s income. 

5. Figure Out a Method for Keeping Records.

In order to stay on top of your record keeping, you need a good process. This step is much easier if you find a good accounting software to use.

Popular options for freelancers include Wave (which provides most basic accounting needs for free), Freshbooks, and Quickbooks. Technically, you can use spreadsheets for tracking expenses and income if you prefer, but accounting software comes with additional features like invoicing and reporting options that make it worth looking into. 

Some accountants have a strong preference for a particular software product (Debra recommends Quickbooks to clients). Consider asking your accountant for their recommendation here to make their job easier.

From an accountant’s perspective, one of the most important things your record-keeping method needs to do is create a clear total of all income and expenses for your business by category. Make sure whatever option you go with at least manages that. 

6. If You Hire Anyone, Make Them Fill Out a W9.

If you hire other businesses or freelancers for services or subcontracting, make sure they fill out a W9 (a form you can download here).

That will provide your accountant with the information they need to classify them properly in your taxes and determine if they need to issue a 1099. 

7.  Figure Out the Best Entity Type for Your Needs.

This tip is part accounting, part legal. Most freelancers will either choose a sole proprietorship or an LLC (limited liability company) for their business structure. If the type of work you do puts you at any risk, such as potential lawsuits, an LLC will protect your personal assets. 

In some cases, an LLC can mean you pay less in taxes overall. But it also involves additional compliance and administrative work for your accountant. Whether or not you save enough in taxes to make up for the cost of additional accounting work depends on how much you make in a year. Talk to your accountant and lawyer about your options to determine which makes the most sense for you. 

As a head’s up, if you do go with an LLC, you’ll need to pay taxes monthly instead of on the quarterly schedule shared above. 

8. Get an EIN.

If you form an LLC, your business will need its own EIN (employer identification number).

But even if you decide to stick with a sole proprietorship, an EIN is a smart way to avoid sending documents to clients with your social security number on them. It’s another way to differentiate your business from your personal, and can protect you from potential identity theft. 

9. Track all Business Expenses.

We already addressed the need to have a good system for tracking your income and expenses, but many new freelancers fail to realize how much truly counts as a “business expense” for contractors.

Tracking everything you spend that relates to your business is important for taking as much in deductions as you’re allowed, thus reducing how much you owe each year.

Some of the most common expenses not to overlook in this step are:

  • Your home office – This one’s complicated, but if you have a dedicated space at home for doing work (and you don’t also have an office elsewhere), you can deduct a portion of your household costs like utilities, internet, and rent based on the square footage you use. 
  • Business phone – If you have a devoted phone account for your business, that’s a business expense. 
  • All supplies you use to do business – Your computer, any software you use to complete work tasks, your printer/scanner, and any office supplies like pens and notebooks you use for work count in this category. 
  • Professional education – If you invest in courses or business books about the type of work you do, those costs count. 
  • Professional insurance – Any insurance you invest in to protect your business should be included as well. 
  • Organization dues – If you join professional organizations, the dues you pay count. 
  • Advertising and promotion costs – Any advertising or marketing expenses should be tracked as well. That includes any cost involved in building and maintaining your business website, such as website hosting and domain registration.
  • Mileage – While this one may not be relevant under social isolation, it’s worth noting for future reference. Anytime you drive from your place of business (even if that’s your home) to a business meeting or professional event, track your mileage. If your main place of work is outside of the home, commuting to and from your office doesn’t count here. But any travel from your main workspace (home or office) to a client or networking event does count. 
  • Travel expenses – This is another one that may not seem relevant right now, but will be again at some point. If you travel to attend conferences or meet with clients in other cities, track what you spend on travel, including food and drink. If you expand a business trip into a vacation, you can only count your expenses on the days you work. For those days, you can choose to take a per diem amount for food and drink provided by the IRS, if that’s easier (or higher) than tracking all your receipts. 

If there are any expenses you’re not sure about, your accountant will help you sort out what counts and what doesn’t. Track them just to be sure, but let your accountant know if you think it’s questionable whether it’s a proper business expense, so they can decide for you. 

10. Make Sure Your Business Has Real Profit Intent.

With all the talk of the gig economy, a lot of people consider turning their hobbies into a business. You have to be careful with this approach. If you start selling items you knit on Etsy, but the materials cost you more than you make in sales, that could look suspicious in the eyes of the IRS and you may risk an audit. 

Having business losses is OK—it happens to a lot of businesses. But if it happens year after year, you need to be able to show you had a true profit intent behind your business and you weren’t just trying to make your fun hobby a write off.

If you take steps like creating a business plan, launching your own website, and doing marketing or advertising, you can make a strong case for profit intent, even if you experience losses in the early going, 

Bad Accounting Practices Will Cost You

Getting your accounting practices right early on is important to avoid facing big expenses you can’t afford come tax time—whether it’s paying an accountant more to deal with your messy record keeping or owing taxes you forgot to save for.

If you devote time and money in the first months of building your business to covering all your accounting basics, you’ll be much better off for it come next April.

Learn more about running your own freelance business: