It Isn’t All YOUR Money

I’ve worked with many contractors and some seem to either forget or simply ignore one very important fact.

A portion of the money you earn on your contract doesn’t belong to you.

Perhaps they have been used to the permanent position of having their taxes and deductions removed at source. They spend the money they earn on their contract and three to twelve months later a tax bill arrived on their door step. Oh dear.

I’ve seen people go into blind panic when they realise to their horror that they have to find 25% or more of everything they’ve earned over the past year.

Save yourself from this terrible situation and save a large portion of your income, put it into an interest bearing account and don’t touch it.

Get advice from your accountant on how much to put away.

12 Responses to “It Isn’t All YOUR Money”

  1. Also remember, that as a contractor that you are able to lower your taxes owing by deducting the expenses that you incurred to earn that income. For example the cost of the new computer, software, whatever portion of rent/mortgage for your home office, a percentage of utilities, cell phone, internet etc. Check the rules with your local tax service in whichever country you live for details.

    Be very sure to keep good records and receipts, you will need to justify every deduction should the auditors from your local revenue agency decide to pay a visit.

  2. I heard of many people who have fallen into this trap especially in the building Industry (I know a lot of tradesmen) and the stories they tell are horrendous.

    I have been told of people having to work for years to pay of tax that they had forgotten to pay and in some cases lost everything they ever owned in including their homes, just because they forgot that some of the money they were earning belonged to the taxman.

    Put it in the bank and listen to no one as no matter what the taxman will always get his pound of flesh.

    Robert

  3. Always a good reminder. Taxes are important. I know folks who lost all due to this. It never occurred to them they would have to manage everything down to the last penny. I can’t fathom how. Perhaps it was “out-of-sight, out-of-mind,” or maybe they failed to do their research.

  4. How to manage tax? Get a good accountant.

    This is what my wife and I did:

    Created a limited company and got VAT registered. With VAT at 17.5%, the VAT bill to the Inland Revenue is 13.5% (12.5% for the first year). In other words, you get to keep an extra 4% of your salary, in lieu of the administrative burden of sorting it all out.

    Found an accountant, whose clients included other IT contractors. He guided us through forming a company, getting VAT registered, the IR35 pitfalls, PAYE etc and stopped us paying more tax than we should. We got quotes around £600-700 pa, which is less than what I was previously charged by an umbrella company (over £1000).

  5. I think it is important to setup two savings accounts. A savings account just for the taxman would be great. Preferably at a bank you do not use on a daily basis. That way you have two savings accounts( One for rainy day and one for the taxman). It is important to be disciplined and good to yourself. It makes you feel better to know that you are covered in case of any hiccups.

    • Mlletech, good point about setting up two savings accounts. I’d add one more suggestion. If at all possible work with your bank to set up an automatic monthly deduction from the account you make deposits to into the tax savings account. That way you don’t have to remember to make the transfer; it just happens.

    • I have a couple of savings accounts and also two checking accounts. One is just for deposits from my freelance work. The other is for everyday. That helps me keep track of what I’m earning from the side job, and reminds me that tax payments must be made regularly.

  6. Now is definitely a good time to be adding up the likely tax bill for 2010 if nothing has been paid in yet! As well as planing ahead for 2011 with monthly set-asides. 25% is a minimum amount to set aside for the tax bill!

    • I’m pulling together my records now, to be ready for year-end. I’m one of those who must get more organized *during* the entire year. That is one of my resolutions for 2011!

  7. Too true. It would be too bad to work hard all year but neglect to set-aside for taxes. And then have to pay a big penalty. It pays to be organized!

  8. It pays to be organized and to be informed. There’s so much to know when you’re working for yourself!

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