How to Budget When Your Income Fluctuates

Hello and welcome to another episode of Freelance 2 Founder where we help you start Freelancing grow your agency and live the work life you've always wanted. You can send in your questions for us to answer on the air at Freelance2Founder.com/ask. I'm Preston and I started Freelancing in college, but from there I've built grown or sold a few successful businesses and together with my guest co-hosts, I'm ready to help you do the same. If you're ready to grow your service-based business into something bigger, if you're ready to become a founder, this show is for you. We're here answering your questions every single weekday and today I'm joined by my new friend, George Azar. He's the founder of Bright Budget and he's a CPA who's focused on helping self-employed people navigate the tax system. Welcome George. Thank you so much for having me, I'm so excited to be here. I'm so glad to have you and I've picked out a money question here because that is your expertise. I want to just read it here. It's from Tonya and then we'll do our best to answer Tonya's question. Tonya says, "I've been Freelancing full-time for a year, but my income is all over the place. How do I set up a budget when my paychecks change every month?" Yes, this is a very common question. I get this a lot, especially when you're Freelancing and you have contracting jobs. The general rule, so I have a general rule, essentially setting aside 25% to 30% into a high yield savings account, that essentially is going to help you from the taxes because one of the biggest things that self-employed people get dinged with, you know, we're very calm. It's very common to know about the income tax, it's a marginal tax system, but there's something called the self-employment tax and it's a flat 15.3% that a self-employed person pays in full. You do get half of a deduction for that. So really setting aside that money into a high-yield savings account is, I would say is priority number one. So, again, 25% to about 30% into a high-yield savings account. The other thing is, especially if you have fluctuating income in this situation, it sounds like, again, you probably have contracting jobs, jobs that, you know, and at a certain time, you're looking for new clients and such. It's always important to set aside about three to six months worth of fixed expenses. So essentially, you know, you're rent, you're utilities. Any of your type of expenses that you have recurring every single month, like subscriptions, if you're in a service industry and you need something like canvas subscription or something along those lines, setting aside about three to six months worth of those expenses into a high-yield savings account is essentially a safeguard for you to be able to, you know, if there is a lull in your business being able to tap into that reserve, the three to six months is really based off of, you know, the frequency of your clients. I would say in your situation, Tonya, that six months is probably best for you because you don't have regular income coming in. So, you know, making sure that you have at least six months worth of savings to be able to cover those expenses in the event that you don't have clients for several months. Oh, okay, that's super interesting. So, let's, I want to break it down for anyone who's listening and is like, I know zero about money, right? So, when we say a high-yield savings account, it sounds really fancy. It sounds maybe a little complicated if you're not familiar with sort of basic terminology. So I want to make sure that we're just, we're just covering our basis here. A high-yield savings account is my understanding, George, you can tell me if I'm wrong, is just a, like a savings account at your bank, whoever you bank with, go open a savings account. But make sure that it's getting, instead of getting like, you know, 0.01%, or even 1%, you're earning like three or four, or maybe, you know, four and a half, five percent on that money. Just basically to keep up with inflation, does that sound right? Exactly. Yeah, a lot of the brick and mortar places like Chase, Wells Fargo, Bank of America, you know, they, exactly, Preston, what you said, it's about 0.02%, but if you go through like an online service, like Marcus Bike Oldman Sacks, or SoFi, or, you know, this is obviously not a promotion for any of this. Sure, yeah. Not a sponsor. Not a sponsor at all. If you just do a Google search to see, the current rate is about 3.5% now, so if you can get 3.5% or higher, that's setting you up for success. Yeah, or like even my local credit union, I think I get 4% in the money market accounts, which is basically just a fancy savings account. So, but the idea is that otherwise you're going to be losing 3% or so a year to inflation on your money that's just sitting in the bank. That's the idea, right? Exactly. Exactly. And the interest rates do fluctuate based off of the primary, the federal primary. So the government has a base, like a benchmark rate. And so banks will change that rate. So if you're going in, you know, it's like 3.5%, it's not that that's going to stay at 3.5%, it depends on what the federal reserve does, with interest rates and all of that. So, expect some fluctuation. But, you know, in the last five years, I haven't seen an interest rate on a savings account go less than 3%. But exactly that. Yes. And it's an inflation protection type vehicle. Okay. That's really helpful. So, I think coming back to Tonya's question, she says, like, how do I budget when my paychecks change every month? How, basically, how do I budget when I'm seeing this roller coaster revenue? And I actually, I love where we've started because instead of saying you have to put, you know, $500 every month into a savings account and $500 into a different savings account for your taxes, for future taxes, you're working on percentages. And I think, I think maybe that's at the core of this answer for Tonya, which is like, if you don't know exactly how much you're going to make every month, you have to budget based on percentages. And as the money comes in, 10% goes here and 15% goes here and 20% goes here. Otherwise, yeah, it's otherwise, you spend your money before it's made, or maybe you make more one month and not enough goes into savings or tax, preparing for tax time. So, I think using percentages is a very, very smart call. Yeah, because the one thing, too, is that if you're doing a budget, just put together, I call it living life and savings categories, if you will. So, living is basically the variable expenses. Those are your going out to eat, anything like that. Your life expenses are the things that you need to survive. So, that's rent, utilities, your insurances, anything like that. Those living or life expenses, excuse me, if you put them in those three different categories and basically say, okay, this is how much it is per month, that will give you a good idea as far as how much you need per month and then basically using that benchmark to then start putting an exactly person like, it's unrealistic to, let's just say that your total expenses per month is $3,000, but you only have $500 left. Even throwing $500 into the savings account helps because you're building that reserve. Once you've built that reserve, you then have more flexibility and how much you want to save, put into savings or basically reallocate your budget. Another thing is looking for cost-saving measures. A lot of, if you have a software company, for instance, like Canva, that you use regularly, you know you're not going to be leaving that. They do have special discount, if you do a yearly subscription versus monthly. So looking at those types of things, calling your insurance company, seeing if there's any way that you can basically get a lower rate, whether it's a loyalty program or looking at your current coverage levels and just making sure that it does make sense for your life as far as the coverage and stuff. So there's many ways to reduce your budget, but in ways to categorize your budget, I would say really look at those life-living and savings categories and use that as a benchmark. I love that. I want to talk about something else that kind of changed a lot for me and how my business and my money and sort of the tie between my business and my personal money. It all made a lot more sense for me once I made this change. But we have to take a quick break. Here from our sponsors, we're going to be back in just a couple of minutes. 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One click publishing means you can update landing pages in seconds, not days, and with enterprise great hosting and security, you're set up to scale. Whether you're launching a new site for a client or creating your own agency showcase, Framer lets you focus on what really matters, delivering incredible work and growing your business. Learn how you can get more out of your.com from a Framer specialist or get started building for free today at Framer.com/FreeLance for 30% off of a Framer Pro annual plan. That's Framer.com/FreeLance for 30% off, Framer.com/FreeLance rules and restrictions may apply. Welcome back to Frilance to Founder. My name is Preston. I'm here with my friend, George. We're talking money today, Tanya sent in a question about budgeting, especially budgeting when your paycheck is maybe a bit of a roller coaster as a freelancer. And George, I wanted to ask you, so there came a point in my business where like revenue was steady enough and it was still kind of up and down right, good months, bad months. But it was good enough that my accountant recommended two things first that we convert the business to an LLC and second that we pay myself as an employee from the LLC. So now in my business, I get a steady paycheck from from my own business. Which makes it way easier, you know, we're talking Tanya about budgeting. It makes it way easier for me to budget and my family to budget because we know every month I'm getting this exact amount from my business. But of course your business has to get to a place where it can support that, you as an employee. But what are your thoughts on moving toward that direction? Yeah, I love this question and actually it ropes into a lot of different components. So, you know, it depends on how your business is set up. It sounds like, you know, as a sole proprietor, like think of the money that you get from your business as being yours. So, you know, I always recommend for my clients that, you know, are sole proprietors or their single member LLC, you know, to open up a separate bank account and just make sure that, you know, only income and expenses are coming from there. And then you could do transfers from your business account. Now, when you have an LLC, so I, you know, I have got to be proven wrong on this. There's a lot of information out there as far as, like, you know, form an LLC. From legal purposes, it makes sense, absolutely, you know, and I can't really dive into the details about that because that's out of my area of expertise and I always recommend you talk to a business attorney. But the general rule with an LLC is that it's an extra guard to protect your personal assets from a legal standpoint. If you are doing a single member LLC for tax purposes, it actually, there is no difference. It actually, in my, in my opinion, there's actually a deficit there because a single member LLC for federal purposes is called is considered disregarded. What that means is that the IRS does not recognize it as a separately taxed entity. Therefore, whether you're a sole proprietor or a single member LLC, the tax form is the same. It's a schedule seats, the self-employment. If you live in a state where they do have a franchise tax, I live in California, there's a minimum $800 tax just for having an LLC, whether, you know, it's at zero activity or you have a loss, it doesn't matter. There's this minimum tax and you have a separate tax form in California. It's a form 568, it's a three-pager and you're only reporting the gross income. The minimum tax is $800. So if you're going to think about going down that route and getting to your question about paying yourself as a sole proprietor or a single member LLC or even as a partner, like if you have someone else in the business and you create a partnership, that is a separately taxed entity. You are considered self-employed in that situation. You can pay yourself a fixed amount and basically do what would be considered like a distribution. So you take $5,000 every single month. That's not a deduction, so to speak, it essentially is just taking that money and putting in your personal account. If you have an LLC or a partnership and you elect S Corp Status, then you can go ahead and do a payroll company, get set up with payroll and issue yourself a salary and essentially that salary becomes a deduction for the business and then essentially you'll have two separate tax forms where you'll have what we call a Schedule K1 because S corporations are flow-through entities, the income and expenses from the business flow-through to the individual taxpayer on their individual income tax return and then you pick up a W2 to, like it's a big subject and I hope you don't summarize it enough. Yeah, thank you. But I actually specialize in S corporations because I see this a lot, so I guess the general rule on that is that yes, you can pay yourself a fixed salary, but depending on what type of entity you have is going to determine whether you're going to be doing it through payroll or just doing a transfer from your business to your personal accounts. Yeah, and so I think coming back to Tonya's question, I think that's perfect and I really hope people, this took me a while to, so my brother happens to be a CPA as well. It's took me a while to multiple conversations with him to understand what my account it was recommending that we do, right? And I should say what I should have said at the top of the episode is George and I are not legal professionals and we can't give you legal advice and you can't hold us liable for what we say on the show, but it has been interesting to watch my business. I have done what's called in the S Corp election that you talked about, George, and it has made a difference in my coming back to Tonya's question in my personal budgeting because I can still take a draw out of the business or what's called a distribution, I think, George, where I can still, if I need a little extra for a trip or an emergency or something, right? I can still give myself some extra out of the business, but I also, but in addition to those distributions, those little extra distributions, I also just get a steady paycheck as an employee of my own company. And like you said, that's deductible, which means you're going to pay fewer taxes from your business. I'm trying to just like really oversimplify here because I think you gave such a good description and also sometimes when you, we haven't spoken like this language for a very long, it can be hard to navigate what you're explaining, but all that to say, it's an option, Tonya, to set up your business in a way and your business entity in a way that you get paid. You can pay yourself the same that you're paying yourself now in terms of the money that your business makes. If you need all of that money still, depending on what your phase of your business is, that can still work often, but I think the goal would be to get your business to a point where it's paying you a steady paycheck that's the same amount every month because then you and your partner or whomever can budget against that amount every month. Instead of wondering like, are we going to have any money next month and then month after that you have $20,000, like it's really hard to budget. So I think getting to a point, at least for me, that was important getting to a point where I knew what to expect from my business every month. Exactly. Because when you set it up as a sole proprietor or a single member LLC, it's like budgeting in the sense that you know that this amount is coming to you every single month so you can cover your personal expenses. One of the things that I do with my budgeting specifically is I create separate bank accounts. So there's this misconception out there that having multiple bank accounts affects your credit. Zero impact on your credit, having a bank account, if you have overdraw or have penalties and all that, it may with an asterisk on there. But I have four different bank accounts and one of them is solely for my life expenses, where my rent, my utilities, all of that comes out of there. So every year I will throw in, maybe every six months I'll throw in some money to be able to cover those expenses. So I don't have to think about it. It automatically gets with withdrawn. I know what's set up for automatic payment on those accounts. And then I have my business accounts for only my income and my expenses. So you can do a budget with having multiple bank accounts knowing that what is going in and going out of those accounts and basically funding those. So you don't have to think about it, just put it on autopilot. Yeah. I love that. In fact, next episode, I'd love to talk a little bit about bookkeeping. I think we have a listener question about bookkeeping, but I have questions about bookkeeping. So maybe we can talk about how that works in with your accounting and your taxes and what you recommend. So we're going to have George back on tomorrow's episode. So be sure to tune back in. George, we appreciate you joining us on this episode. I think it's been helpful for me. It's certainly been helpful for me. I hope it's been helpful for you, Todd, and you for writing in your question. George, before you go, will you just let people know where can they connect with you and where can they find the stuff you're working on in case they want to learn more? Yeah. Thank you. So my website is breakbudget.com. It's basically a passion project that turned into a separate business where I teach about self-employment. I have a self-employment 101 course, and then I actually did a mini course for escort operations because as we were talking about that question, I noticed there was a lot of questions in regards to escort operations. I'm also on forehandles, my Instagram is breakbudget media, my TikTok is breakbudget, and my YouTube is right with hack stocks. I love it. We will be sure to link to all of that in the show notes of this episode. Thank you so much for listening. To this episode of Freelance to Founder, remember you can submit your question. We'd love to answer it on the air. You can visit Freelance2Founder.com/ask. We have a voicemail feature, an email feature. You can also catch up on past episodes right there on the website. I've been presently here with George Azar, and so grateful that you were here, George. We will catch you guys next time on Freelance2Founder. Hello, this is Jack Wilson, the host of the History of Literature podcast. 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