How Much Should Freelancers Save for Taxes?

One of the biggest shocks of going freelance is the tax bill. Nobody deducts tax from your invoices, so the question how much should freelancers save for taxes matters from your very first client. There is no universal number, but there is a simple method that gives you a sensible estimate to work with. This guide is general information, not tax advice. Tax rules differ by country and change over time, so confirm your own figures with your tax authority or a local accountant.

Why there is no single percentage

The right figure depends on several things:

• Your country and local rules. Tax rates, thresholds and allowances differ widely.
• Your income level. Many systems tax higher slices of income at higher rates.
• The types of tax you pay. Income tax, self-employment or social contributions, and possibly regional taxes.
• Your deductible expenses. What you are allowed to subtract before tax is calculated.
• Your legal structure. A sole proprietor, an individual contractor and a company may be treated differently.

Many freelancers use a combined planning rate somewhere between 20 and 30 percent of profit as a starting point, but your own figure may be lower or higher. The method below lets you plug in the rate that applies to you.

The simple tax set-aside method

1. Estimate yearly revenue: everything you expect to invoice.
2. Subtract allowable business expenses: the result is your profit.
3. Multiply profit by your combined tax rate to get the yearly tax estimate.
4. Divide the tax estimate by revenue to get the percentage of each payment to set aside.

Worked example

You expect 70,000 in revenue, 5,000 in expenses and a combined tax rate of 22% on profit.

• Profit: 70,000 − 5,000 = 65,000
• Yearly tax estimate: 65,000 × 22% = 14,300
• Set-aside percentage: 14,300 ÷ 70,000 = 20.4% of every payment
• Per month: about 1,192
• From a 1,000 invoice: about 204

The set-aside percentage (20.4%) is lower than the tax rate (22%) because expenses reduce your taxable profit. You can run your own numbers in the freelancer tax set-aside calculator.

How the tax rate changes the percentage

With the same revenue (70,000) and expenses (5,000), different combined tax rates give very different amounts to save:

If you are unsure which rate applies, start high. Saving a little too much is a pleasant surprise, while saving too little is a bill you cannot pay.

How expenses change the percentage

With the same revenue (70,000) and a 22% rate, here is what different yearly expenses do:

Keeping good records of genuine business expenses can reduce your tax, but only count expenses your tax rules allow, and never invent or inflate them.

Deal with irregular income

Freelance income is lumpy. Some months bring large payments and others almost nothing. To keep it simple, apply your set-aside percentage to every payment the day it arrives. In slow months you will not have anything to set aside, but the percentage already built up in good months covers the tax. Also keep a separate buffer for living costs, so you are never tempted to dip into your tax savings.

Keep sales tax or VAT separate

If you charge sales tax, GST or VAT, that money belongs to the tax authority, not to you. Hold it separately from your income tax savings and from your own money. The set-aside method in this guide covers income-type taxes only. How these taxes work depends entirely on your country and registration status, so ask your accountant.

Habits that make tax time easier

• Use a separate savings account. Transfer your set-aside percentage whenever a client pays you.
• Keep records. Save invoices, receipts and bank statements as you go, not at the end of the year.
• Learn the payment deadlines. Some countries require tax in instalments during the year, and late payments may carry penalties.
• Check estimates every quarter. If your income is much higher or lower than expected, update your percentage.
• Round up. It is better to over-save a little than to be short.
• Track by client. A simple spreadsheet of invoice date, amount, paid date and tax set aside is enough.

When to talk to an accountant

Consider professional help if your income is rising quickly, you work with international clients, you are thinking about registering a company, you are not sure which expenses are allowed, or you have missed a deadline. A single consultation in your first year can save much more than it costs.

A simple monthly routine

1. On payment day: record the invoice and move your set-aside percentage into your tax savings account straight away.
2. Once a month: compare the balance in your tax account with your yearly estimate divided by the months passed. If you are behind, increase the percentage for the next few payments.
3. Once a quarter: update your revenue and expense estimates, then recalculate your percentage with the tax set-aside calculator.
4. At year end: gather your invoices, receipts and bank statements into one folder before you meet your accountant or file.

A routine this small takes only a few minutes a month, but it prevents the most common freelance tax problem: a large bill and no money set aside to pay it.

Build tax into your rate

The best way to stop tax from feeling like a loss is to include it in your pricing from day one. When you calculate your freelance hourly rate, you gross up your take-home goal for tax, so the money is already part of what you charge. If you are moving from a job, also see how to convert a salary to a freelance hourly rate.