Freelancing offers plenty of flexibility, but managing money can be complicated when your income varies from month to month. One month, you might have several projects on the go and a healthy balance in your bank account. The next, a client might delay payment or work might dry up just as your bills arrive.
There’s also tax to put aside, business expenses to cover and superannuation to think about. If you’re working towards FIRE, all of this can make it harder to know how much you can afford to invest.
The good news is that you can build an investment portfolio on an irregular income. The trick is to understand your cash flow, plan for quieter periods, keep a cash buffer and find an approach to investing that fits the way you work.
1. Pay yourself a regular salary
One way to manage fluctuating income is to pay yourself a set amount each week or fortnight, regardless of when your clients pay you.
Sometimes called a synthetic salary, this approach involves collecting business income in one account, setting aside money for tax and expenses, then transferring a regular amount into your personal account.
You could organise your money across a few accounts:
- Income account: Receives client payments.
- Tax account: Holds money for GST and income tax.
- Business expenses account: Covers software, equipment, insurance and other work-related costs.
- Buffer account: Covers your salary during quieter periods.
- Personal account: Pays for household expenses and everyday spending.
- Investment account: Holds money earmarked for your long-term goals.
- Superannuation account: Allows for regular contributions if you pay yourself super.
These don’t all need to be separate bank accounts. The important part is keeping track of what you owe, what you need for living expenses and what you can afford to invest.
Review your earnings and spending over the past 12 months to work out a realistic salary. If you base it on an unusually good month, you could find yourself drawing down your savings when work slows. Start conservatively and review the amount as your income changes.
2. Set aside money for tax
As a sole trader, you’re responsible for managing your own tax obligations. If you don’t account for them as you earn, a large bill can eat into money you’ve already committed elsewhere.
If you’re registered for GST, move the GST component of each payment into a separate account. For most GST-inclusive invoices, this is one-eleventh of the total. GST registration is generally compulsory when your annual GST turnover reaches $75,000, although exceptions apply. Check the ATO’s GST registration guidance.
You’ll also need to allow for income tax and any PAYG instalments. How much to reserve depends on your taxable profit and personal circumstances, so ask your accountant to help calculate an appropriate amount.
Keep records of business expenses throughout the year, too. Software, equipment, insurance, accounting fees and eligible home-office costs may be deductible, provided you meet the relevant requirements and exclude private use.
Before investing surplus cash, check that your tax obligations are covered. Having to sell investments to pay an unexpected tax bill can disrupt your plans and potentially crystallise a loss.
3. Work out how much cash to keep aside
Freelancers generally don’t receive paid annual leave, sick leave or redundancy payments. A major client might cancel a project, or several invoices might arrive later than expected.
A cash reserve can help cover household and business expenses while you find more work. Six to 12 months of essential expenses is a common starting point for self-employed people. For example, if your essential expenses are $4,000 a month, six months would require $24,000 and 12 months would require $48,000. However, the right amount depends on your circumstances.
Consider how diversified your client base is, how reliable your workload tends to be and whether other household income can cover expenses during a downturn. Someone with several established clients may need less cash on hand than someone who relies on a single contract.
Keep your reserve accessible in a savings account, separate from the money you’ve set aside for tax.
If you’re still building your reserve, you can work towards your target gradually. Just be realistic about how much you can invest while your cash reserves are limited.
4. Find an investing routine that suits your income
Once you’ve accounted for tax, business expenses and your cash reserve, you can decide how much to invest.
There are two practical approaches for freelancers:
- Invest a percentage of your available income. After accounting for tax and business costs, direct a set percentage of your surplus towards investments. Your contributions will increase in stronger months and fall when earnings are lower.
- Invest when you have surplus cash. Set a minimum balance that covers your cash reserve and upcoming expenses. When your account comfortably exceeds that amount, transfer some of the excess into your investment account.
The second approach can be particularly useful if you receive large payments irregularly. Rather than committing to an investment amount you might struggle to maintain, you can make contributions when your cash flow allows.
Automation can also help. For instance, Pearler Automate lets you schedule recurring purchases of eligible ETFs and LICs, so you don’t have to place every order manually.
You could transfer money into your investing account after a profitable month and set up recurring purchases at an affordable level. Review the amount when your circumstances change, and make sure your investments remain consistent with your goals and risk tolerance.
5. Remember to account for super
Sole traders generally aren’t required to pay themselves superannuation. And without employer super contributions, it’s easy to focus on accessible investments and overlook retirement savings.
However, super can be a vital component of a FIRE strategy, providing additional income during retirement alongside potential tax benefits.
Personal concessional super contributions can be tax-deductible, subject to contribution caps and eligibility requirements. You may also be able to carry forward unused concessional cap amounts from previous years if you qualify.
To claim a tax deduction for eligible personal contributions, you’ll generally need to lodge a valid notice of intent with your super fund and receive its acknowledgement before claiming the deduction. Check the ATO’s superannuation guidance or speak with your accountant before contributing.
If you’re aiming to retire early, remember that super is generally inaccessible until you meet the applicable age and conditions of release. You’ll need to consider how much to keep in accessible investments to cover your expenses before then, alongside the savings you’ll use in retirement.
6. Calculate your FIRE target
A common starting point for estimating your FIRE target is to multiply your annual expenses by 25. For example, annual expenses of $60,000 would imply a portfolio of $1.5 million.
This is based on an initial withdrawal rate of 4% a year, although it isn’t a guarantee that your money will last. Your target will depend on investment returns, inflation, taxes, fees and how long your money needs to sustain you. Early retirees may need their savings to support them for several decades, so it’s worth testing more conservative assumptions.
You might also decide that you don’t need to stop working altogether. Barista FIRE involves accumulating enough investments to cover part of your expenses, then earning the rest through part-time work or freelance projects.
If your annual expenses are $60,000 and your portfolio can support $35,000 a year, for example, you would need to earn the remaining $25,000.
For freelancers, that might mean accepting fewer clients, choosing projects more selectively or working fewer hours. Your target will depend on how much income you want to keep earning and how much you expect to spend.
Making your plan work in practice
Start with the basics: understand your household expenses, separate money for tax and establish a cash reserve. From there, decide how much you can invest and choose a routine that fits your income.
Review the numbers when your circumstances change. A new client, a prolonged quiet period or a decision to reduce your workload can all affect how much you can put away.
Financial independence will look different for every freelancer. For some, it means building a portfolio large enough to stop working. For others, it means having enough invested to turn down projects, take extended breaks, work less or choose work based on interest rather than income.
Knowing your numbers gives you a clearer idea of what those options might cost and how to work towards them.
Disclaimer: This article is general in nature and has been prepared without taking into account your individual objectives, financial situation or needs. It does not constitute financial, tax, superannuation or investment advice, and nothing in it should be relied upon as a recommendation to buy, hold or sell any financial product or change your investment strategy. Tax obligations, eligibility for deductions and the appropriate level of savings and investments will vary depending on your individual circumstances. Before making decisions about your finances, tax, superannuation or investments, consider whether the information is appropriate for you and seek professional advice from a qualified financial adviser or registered tax agent.
