The freelance community has grown exponentially in recent times, which can be attributed to the potential benefits of flexibility, control, independence and of course, being able to wake up when you like.
According to a recent survey ‘Freelancing in Australia: A National Survey of the New Workforce, 37% (3.7 million) of Australians are engaging in freelancing – contributing $51 billion the economy each year. This massive percentage of the Australian workforce is driven by technology, which is used as a platform for each freelancer to navigate lucrative ventures with ease.
The majority of freelancers engage in the role via an ABN and personal tax number. Whilst this is the necessary foundation for a freelancers early stages, it may become important to transition from this to a company entity as you enter a new stage of your business. This transition is referred to as ‘incorporating’, which may seem quite confronting in its initial stages, however can be rewarding in terms of setting out your legal structure. So what are the benefits?
First client – it begins
The feeling is unexplainable, no matter how minute the dealing is, once the words of ‘It’s a deal’ has left the mouth of your client, you are on cloud nine. Your word of mouth stream has begun.
If the client has had positive dealings with your service, then it’s viable to assume that this experience will likely be passed onto their friends or business partners. Nonetheless, the potency and persuasive nature of the word of mouth stream is strengthened if you are incorporated as it provides a level of professionalism and authenticity.
10th client – the need for protection
A significant reason for incorporation is the notion of protection, ultimately generating a barrier between you and the customer basis. This barrier may have not been necessary during early development when you only dealt with 3-4 customers, however as this base expands, you will soon come to the realisation that it is essential to have this safeguard in the event of something going wrong.
This safeguard essentially ensures that if legal action is taken against you, your personal assets are not at risk, but rather the business entity itself.
50th client – the search for help
Profit and word of mouth are not the only metrics that grow when your market share expands. This growth is also accompanied by an overwhelming workload, and it only gets bigger. Lack of structure and experience can result in missed deadlines or reduced accessibility.
So to ensure you can successfully deal with these booming cycles you might need to look for help. The need for employees is essential once the business metrics and KPI’s are met or improve. If employees are sought out by the freelancer, it is highly advised to incorporate the business so that the party enters into an agreement with the company, rather than the owner.
100th client – tax
Tax concerns must be dealt with as the business grows and gets into the nitty gritty of the legalities and various avenues to take in order to maximise the metrics of the business.
There are two main sources of income for the company, passive income (investment) and active income (salary).
Passive income is reflective of a recurring source. Once an investment is made (assuming it is successful), the income generated will continually flow in, with little work required by the owner. This source of income is taxed at a lower rate than active income. Whereas active income generally involves the exchange of trade for money and is taxed at a higher rate.
In regards to different business structures, corporations are taxed at a lower rate than sole proprietorship or partnership. For example, corporate taxes in Australia are calculated at a 30% flat rate (28.5% for Small Business’), while personal income taxes use a progressive scale.
For a sole proprietorship tax needs to be paid on entire earnings, however companies can, for example, claim that 60% of the earnings are paid in salary and 40% is deemed as profit. In this case, the self-employment tax would not be paid on the 40% profit. This can save your freelancing business thousands every month.
To incorporate or not
When deciding to become incorporated, it’s important to consider your current situation and future growth plans. While it’s not for everyone, it does offer many benefits, not only from a financial perspective but also to ensure you are personally protected from any legal issues that may arise against your business. It’s important to consider the above points and ask yourself where you fit into the above freelancer lifecycle. You’ll then have a clearer view of whether it makes sense for you to incorporate or not.
What do you think? Will you incorporate? Do you have further questions about the legalities of freelancing? Email them to email@example.com and we will find you answers.