I discovered a few interesting things while preparing for my quarterly taxes. I don’t have to pay them until April 15th. Also, I don’t base it on the total taxes I will owe. I only have to pre pay 1/4 of last year’s total federal tax. So I can ignore the medicare and social security if I want to owe a ton of money at the end of the year. I think what I’ll actually do is save the difference between what I will owe and what I have to pre pay into a savings account. That way at the end of the year, I won’t have to scramble to pay a huge tax bill.
What I can tell so far, there are four major financial differences between being an employee and being a self employed individual. These four are health care, retirement, taxes (social security/medicare), and time. I’m speaking from the perspective of someone who bills by the hour.
Health care is really dependent upon what your employer provides. I can get similar coverage to my old job for roughly the same as what my former employer was providing. I wasn’t getting fantastic health coverage before though. Some of the plans with low deductibles are quite expensive to get on your own. I’m settling on a plan with a $10,000 family max out of pocket plan for around $350/mo for my family of five through Blue Cross. On the plus side, it is an HSA. So I can contribute to this account tax free money. If I don’t use it on health care, it stays in the account.
Retirement is interesting. As an employee, you are limited to a maximum contribution of $16,500. With a SEP, the max you can contribute is 20% of business income up to $45,000. With a solo-401k, you can contribute more than 20% but still with a limit of $45,000. I wouldn’t reach these maximum contributions in either case, but it is a nice benefit if you are earning lots of money.
A third area is taxes. I knew that the employer paid the other half of the employment tax. I never really thought about the implications of it. I didn’t see the actual dollar amount, and it was never reported on any of my W2s. Employees pay this tax in the form of reduced wages so it is a hidden tax. Employees only see 7.65% taken out for social security and medicare. Self-Employed individuals pay 15.3%. In order to compare your wages as an employee vs your income as a self employed individual, you need to make adjustments. What this means practically is that you either need to work an extra 3 hours per a 40/hr week at the same pay rate as an employee, or you need to increase your rate by $0.83 for every $10 you were getting paid as an employee.
The fourth area is time. As a self employed individual, time does indeed equal money. If I’m not working, I’m not getting paid. What this means practically is that holidays have a different feel to me. I am not able to work or bill during a holiday. It also means that when I take vacations, I am not getting paid. It means that if a client doesn’t need me for any reason, I’m not getting paid. If I’m actively seeking out new contracts, I’m not getting paid for this time. You need to factor in this down time into your bill rate otherwise, you will find yourself making a lot less than you were previously. The upside to this time factor is that if you are a hard worker, you can work a lot more than 40/hrs a week and can increase your income that way.
The biggest change for me in being self employed is that I love what I do. I get to work on different and interesting projects. This is strange, but I no longer am sad it’s monday or happy it’s friday. This really doesn’t have anything to do with working for myself. It is entirely dependent on liking what I do. I am pretty sure I could be just as happy working as an employee if the work was interesting. I am getting to work on the Blackberry, the iPhone, Windows Mobile. I am using Java and C#. The Blackberry project is especially fulfilling. Because of the Blackberry, the sales team are getting many more opportunities to sell. I will have directly contributed to increasing the revenue of this company. I love it!
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