Five costly mistakes to avoid when starting out as a freelancer

money mistakes frustration

When I started working for myself 16 years ago, I faced a steep learning curve.! Like many first-time freelancers, I launched into my new life with heaps of excitement, and a dollop of blissful ignorance!

Since then, I’ve re-invented and re-launched my freelance business a couple of times, and learnt a lot in the process.

If I were to start again from scratch, these are the financial pitfalls I’d look out for:

 

1. Spending too much money to launch

One of the mistakes I made early on was to invest heavily in branding materials before I understood my potential clients’ needs in enough depth. I spent a lot of time and money working with a designer to craft a slick logo, a carefully considered brand style-guide specifying the right colours and fonts, a sophisticated website and quality business cards.

I’ve since seen numerous freelancers make the same mistake.

Why is it a mistake?

Because when you’re starting out, you’re invariably working with assumptions.

Assumptions about who your potential clients are, what they want and how to reach them.

And once you get out into the marketplace, you often find that the reality isn’t quite how you imagined. Even if you did prior market research, there can still be surprises down the road.

You might have to go back to the drawing board and scrap all of your lovingly-crafted materials!

This cautionary tale is explained in The Lean Startup, the bestseller by entrepreneur Eric Ries. He advocates launching any new business with a Minimum Viable Product (MVP). This means putting together a basic offer and inexpensive marketing materials that allow you to test the market first.

You could launch your business with nothing more than your LinkedIn profile, or a simple website using a tool like wix.co, so you can get going quickly and gain valuable feedback.

That’s not to say that well designed branding won’t help you build your credibility – of course a great website can help you win work. But it’s best not to spend too much until you understand the real drivers of your business. Once you do, you’ll be in a stronger position to invest in your brand.

2. Undercharging

One of the most common rookie errors is to equate your freelance fees with the salary earned by full-time employees.

You can’t compare the two, because the amount you end up with in your pocket is a lot less than the amount you charge.

For example, if a freelancer charges £450 a day, it might appear that they’re making the equivalent of a six-figure salary.

However, that’s not the case, because the fee has to cover:

      a)       Labour costs (time to do client work and admin, plus downtime)

      b)      Fixed costs (such as accountancy fees)

      c)       Variable costs (such as travel or materials)

      d)      Taxes and National Insurance

      e)      Profit

So by comparing fee with salary, you’re not looking at the whole picture

And if you think that freelancers don’t have to worry about these things, think again. A freelance business is a business like any other.

If you work from home it’s surprising the costs you can generatehow you can rack up additional costs just through wear and tear and other items that are invisible when you work for someone else.

Even if you work at the client’s office you still have to factor in additional expenses. For example, your business has to make a profit over and above the money you need to live, to cover things such as holiday and sick- pay, and any downtime you might have between projects.

So don’t fall into the trap of charging too little. You should charge how much you need to earn plus how much your business needs to earn.

When deciding how much to charge, it’s best to be bold. We tend to have a more rigid idea of the ‘market rate’, than our clients do, when in fact they may be willing to pay quite a lot more than we think.

As a rule of thumb, you want about 20% of potential clients to turn you away down because you’re too expensive. If you’re winning every project you pitch for, it could mean you’re too cheap!

3. Messy money management

Paying more tax than you’re legally required to is a terrible waste of money – money that you need to bankroll your business.

So how do new freelancers end up paying too much tax?

By not staying on top of the incomings and outgoings.

It’s essential to have a proper system to record your finances, including invoices and expenses. There are many bookkeeping tools, such as Quickbooks, to make the task that much easier.

This allows you to keep track of everything, enabling you to offset legitimate expenses against tax, so that you don’t pay more tax than you have to.

It’s vital to keep personal and business expenses separate – under no circumstances should you claim personal expenses against tax, or you can incur hefty penalties[ii] (as one acquaintance discovered after claiming a hotel bill which he justified as business because he went skiing with his accountant!)

[ii] To understand which expenses to claim, download, ‘Be Your Own Boss’ at www.ipse.co.uk/resource/guide-to-freelancing-v4-pdf.html 

4. Getting slack with cash flow

Another pitfall is to get absorbed in the work and lose track of when the cash is coming in.

 

So as well as recording the incomings and outgoings as per the previous point, it’s important to pay attention to timings.

 

When will you receive the money? Have you agreed an invoicing schedule?

 

If you’re working on an ongoing contract, you could invoice monthly.

 

If it’s a project with a defined end-point, then it isn’t necessary to invoice the whole lot at the end. You could agree 50% up-front and 50% at the end.

 

And although 30-day payment terms are common, it’s perfectly acceptable to request payment within seven days instead. Agree up-front the terms that work best for everyone, and then state them clearly on your invoice.

 

If you find that payment isn’t forthcoming, there’s nothing wrong with nudging the accounts department. Large companies can have rather slow internal processes, and don’t usually object to a polite phone call to remind them that an invoice is overdue.

 

If you still find that an overdue invoice isn’t being paid despite repeated reminders, you have the right to charge interest.[i]

 

[i] See www.gov.uk/invoicing-and-taking-payment-from-customers/payment-obligations

 

5. Getting employment status wrong

 

Employment status determines whether you should pay tax as a self-employed person or as an employed person.

 

Get this wrong and it can be very expensive indeed!

 

Problems arise if the tax office challenges your employment status, because they think you’re not genuinely self-employed.

 

For them to see you as genuinely self-employed, you need to show that you’re running a business providing services to clients, rather than being a pseudo-employee of the client.

 

If the tax authorities suspect that you’re not genuinely self-employed, they could launch a lengthy tax investigation.

 

If you’re a sole trader, and you fail the tax investigation, it can result in your client being liable for additional tax and penalties. If you’re running a limited company, you would have to pay up under the IR35 rules[i].

 

Either way it’s a costly mistake, so it’s vital to read up and understand the rules around IR35 and employment status before signing a contract or starting a project with a new client.

 

So if you’re planning to start your own business, keep these five points in mind and it will help you maintain a healthier bank balance!

 

[i] Download IPSE’s guide to IR35 at www.ipse.co.uk/resource/guide-to-ir35-v1-pdf.html 

Meet the author

Tim Bradburn

Tim Bradburn is an independent business consultant, member of IPSE’s Consultative Council, and author of several publications, including ‘Be Your Own Boss,’ IPSE’s guide to freelancing.