How I budget with a variable income

It seems like everybody's goal lately is to leave their job and become a freelancer. And that's great! Freelancing gives you flexibility and control — and, plus, you get to work from home in your yoga pants.

But as someone who has transitioned into that role full-time, there are certain things I do miss about having an employer:

  • 401(k) match

  • Insurance benefits

  • Free coffee

  • Office buddies

  • Income stability

Last year, I freelanced, but my monthly income was more or less the same — and, if not, it was easy to predict. This year, as a true freelancer with multiple clients, there are a lot of things that affect my budget (like how long it takes for a client to pay, for example) and they're mostly out of my control.

For the most part, my income doesn't vary too much from month to month. When I was in between work at the beginning of the year, however, it was a different story. Either way, here's how I budget with an irregular income.

Zero-Sum Monthly Spending

Zero-sum budgeting has always been my method of choice. I was using this method before I even knew it had a name. I find it works well with financial goals like saving or getting out of debt.

In her post on this topic, Holly Johnson outlines the steps to create a zero-sum budget. It involves listing all of your expenses, budgeting for them, and then putting the excess to work. Every dollar has a duty. For a monthly amount to budget against, I simply use the lowest amount I've earned in the past six months. I would go for the past 12 months, as J.D. recommended in his own irregular income post, but I was in emergency mode in January, so that amount is pretty low already.

I zero-sum budget according to that amount, and my excess income goes toward my savings goals. It used to go toward debt goals.

Checking Account Cushion

I'm too lazy to figure out how much I need to have in my checking account at various times during the month — after rent, after bills, etc. — so I simply keep a checking account cushion that's more or less equal to the amount of my monthly living expenses. This helps ensure that, even after rent, I have enough in my checking to cover bills. Once I'm paid, and the amount in my checking exceeds my monthly expenses, I then transfer it to savings.

My Savings Method

I have a few different savings accounts:

  • A high-yield online account (for estimated taxes and my emergency fund)

  • Traditional IRA (I want to switch to a Roth soon)

  • SEP-IRA (extra retirement account if I max out my traditional IRA)

  • Taxable brokerage account (for a medium-term goal)

Here's what I do:

First, I have a baseline amount, a “cushion,” of $5,000 in my online savings. This is my emergency fund/estimated quarterly taxes account. If an emergency were to arise, I feel confident that this would be enough to get me by until I could …

  1. find extra work
  2. pull money out of that taxable brokerage account (or)
  3. replenish it by saving more.

(Note: When I was paying off debt and I didn't have a brokerage account from which to draw, I had much more in my emergency fund. As my finances became more secure, I pared down this fund. Lisa Aberle wrote about this concept in her post on emergency funds.)

I save for about three to four months in this account; so during that time, ideally I will have more than the baseline amount. I think of it as a holding account, basically. And after I have saved up enough to invest, I take the money out, invest it, and leave the $5,000 baseline amount in the account.

My savings goals are simply to max out my retirement each year, save X amount for a medium-term goal, and then save the rest in my SEP-IRA. So when I've hoarded enough in my holding account, I save the surplus according to where I'm at with those goals.

Estimated Taxes

Maybe you're wondering what I do come quarterly tax time when I have to write a big, tear-soaked check to the IRS.

Let's say I have $5,000 in my regular online savings come tax time. First, I calculate my estimated quarterly taxes. I estimate what I expect to earn for the year and then consider what I've already paid them. Let's say the quarterly amount I owe is $3,000. I now have $2,000 left in my online savings — which is below my baseline amount. I simply keep saving until I get back to my safety number of $5,000. Then I go back to my system and save accordingly.

In his post, J.D. recommended creating a “business” account, separate from your personal account:

“From this money, pay yourself as if you were an employee. Your monthly salary is whatever you calculated as your monthly budget, your minimum monthly income from the past twelve months. On a set date each month, write yourself a paycheck. Leave the rest of the money in your business account.”

This is similar to my savings account. The difference is really just timing. He puts his income in the business account first, then pays himself. I pay myself from my income first, then put the rest in that account. He uses that account for estimated taxes too.

Really, my system boils down to just a few things:

  • Savings for quarterly taxes that double as an emergency fund

  • Investment accounts for goals, including retirement

  • A checking account cushion

  • Accumulating money in my savings account until I have enough to invest

Of course, my method might not be for everyone but, so far, it's worked for me.

If you have an income that varies from month to month, how do you budget?

More about...Budgeting, Retirement

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Mrs PoP
Mrs PoP
5 years ago

Mr PoP isn’t a freelancer, but a good portion of his income comes through commission and can vary pretty drastically from month-to-month. For us, that’s been a big incentive to try and live only off of my income and treat his as though it’s all going toward savings. I don’t know if we would have really made quite as big of an effort to “live off one income” if the other weren’t quite so variable, but the roller coaster definitely works in our favor.

sarah
sarah
5 years ago

I don’t think everybody’s goal is to become a freelancer. I think that’s a very small percentage of the population. Most of the people I know are looking for salaried jobs with benefits and many are being forced to freelance instead. Most of my friends are therapists and architects and will consider contract jobs only if they can’t get a better, salaried job.

I think people who either dislike their job or are unemployed/underemployed just have a lot of time to spend on the internet and PF blogs in particular. Those are the people who dream of freelancing.

Erica
Erica
5 years ago
Reply to  sarah

I do think that “everybody’s goal” is definitely overstating things in the lead. But to Kristen’s defense, I also work in communications and almost all of my former colleagues (designers, writers, public relations folks) now freelance. It’s an especially popular choice for mothers. Basically we realized we could make more money and have more control by cutting out the middleman. Freelancing is also much more secure than a salaried job – you don’t have all of your eggs in one basket. If you lose a client, you only have to replace part of your income. That said, there are definitely… Read more »

Debi
Debi
5 years ago

My husband is a self employed engineer and like Mr. PoP has very irregular income. We’ve been treating our finances like Mr. and Mrs. PoP for about 10 years now. We try to live off of my income and save his. Some months it works, some months it doesn’t. We keep about 2 months of average expenses in a savings account to cover fluctuations. We accumulate money in his business account to pay estimated taxes.

Tricia
Tricia
5 years ago

DH makes commission, which varies wildly. Some months it is not enough to cover our minimums. Therefore when he has a great month, we need to first make sure that we are caught up on any bills, then see if there is anything we can pre-pay/pay-off, and finally put some money into savings.

Patty@homemakersdaily.com
5 years ago

My husband is a self-employed remodeling contractor and has been for 26 years. I don’t work outside the home so it’s just his income. What works well for us is being a month ahead. We get a weekly salary from the money he earned the previous month. Everything earned during the current month goes into the income account. At the end of the month we pull our monthly budget amount and put it in the spending account for the current month. If we earned more, it goes into the business surplus account. If we earned less, we pull from the… Read more »

Erica
Erica
5 years ago

I’ve been freelancing by choice for six years. You definitely need to set yourself up legally as a corporation with a separate bank account. Then the cash flow works like this: 1. Clients address their checks to my corporation 2. I deposit each check into my business checking account, and immediately transfer 25% into my business savings for estimated taxes. This is VERY IMPORTANT. Do not act like this is money you can spend – treat it the same way you would if an employer were taking taxes automatically. It’s just gone. Pretend it never existed. 3. Each month, I… Read more »

Emma
Emma
5 years ago
Reply to  Erica

That’s basically how I run my freelance business as well. If freelancers find it upsetting to write a check to the government for taxes, then they should rethink how they are handling their money, IMHO.

For me, paying myself a salary helps with the mental math because I know what’s in the business budget versus my personal budget. The taxes and expenses aren’t “mine” any more than my gross salary is.

Mimi
Mimi
5 years ago

These are all great success stories and I appreciate them; however, they are not the reality of my financial life and I think there are a lot of folks out there who don’t have a cushion, who don’t have retirement savings, who can’t pay themselves first because there isn’t anything left over. My strategy for living with a variable income is to juggle the bills and cut expenses to the bone. This is because–after 30 plus years of living on a variable income–I still have a large mortgage, not very good credit, and a car payment to manage. It’s all… Read more »

cindy
cindy
5 years ago
Reply to  Mimi

i responded to you and i somehow lost it. Mimi you are not alone. I am in the same situation. I dont have a job at this time due to an on the job injury. my money (i budget tight) may not last if i have no luck with any other income. how can i make it last. i have experience in sales, medical field but because of the injury i am a liability to an employer. and to add to this i never was properly taken care of and still am with injury. any advice for me.

Mimi
Mimi
5 years ago
Reply to  cindy

Cindy: As I mentioned, I’ve cut expenses to the bone. Everyone has his/her own particular situation, and there are usually ways to cut out the “extras” such as cable TV, internet service, cell phones, eating out and other entertainment. I am of an age that I remember when the first three were not even options! However, I realize that internet service has now become as important as having a phone when it comes to employment (i.e., submitting applications, etc.) I think it depends where one lives: I live in a university town that has two libraries with computers available. My… Read more »

Kate Nelson
Kate Nelson
5 years ago
Reply to  Mimi

I can really relate to both you and Cindy. However, I left a $65K/year teaching job because it was killing me, literally. I now earn about 25% or less of that as an adjunct professor, freelancer, and consultant. Thankfully DH has a job that has benefits. Even so, I can see areas where we could slash expenses. I’d like to get a cheaper cable package, for example, and I feel like I’ve trimmed the food budget as far as it will go. At age 58, and with 3 master’s degrees (all paid for by employers) I think I’ll be lucky… Read more »

Thomas Schlesinger
Thomas Schlesinger
5 years ago

One way to deal with a non-fixed income could be this one:

1. Create a buffer of three to six months worth of expenses.
2. Budget the income of the last month for the current month.

By this approach, you know in advance how much money you have available in the current month without knowing how much you’ll earn.

I’ve got this idea from the FinancialMentor Podcast (http://financialmentor.com/category/podcast).

Elissa @ 20s Finances
Elissa @ 20s Finances
5 years ago

Yeah, the freelancing is on and off for me. Sometimes it works, sometimes it doesn’t – but when it works, it’s never enough to be full-time. It’s not consistent enough, but it helps me for a boost.

Good article!

CheapMom@SimpleCheapMom
5 years ago

When I was working for myself I tried to just use my personal account, but ended up using a separate business account and paid myself a “salary”. I liked having steady money coming in and it was much easier to track everything at tax time.

Lance
Lance
5 years ago

My wife used to get a base and then commissions. Some month the commissions were way more than the base and life was awesome, some months commissions were barely $100. We couldn’t plan for the unknown so we saved all my wife’s salary and just lived off of mine that way it didn’t matter what she made, it was all savings. It made things tight, but our savings rocketed way up. I think you need to plan for the bare minimum and be happy when you exceed it that way there are no major surprises.

Alex
Alex
5 years ago
paul
paul
5 years ago

I work from home,and have varying monthly salary,so my way is to simply budget the minimum i need to cover everything,any surplus goes into a savings account,which can pay for extras,after severals months this has left me with £3k in savings.

Prudence Debtfree
Prudence Debtfree
5 years ago

“I zero-sum budget according to that amount, and my excess income goes toward my savings goals. It used to go toward debt goals.” That inspired me : ) We’re on a very long journey to debt-freedom, and I hope to be able to say these words some day. My husband is self-employed, and his income and expenses are so variable that we can’t always even count on paying him a regular income. The cushion concept is essential, and a zero-sum budget is the only way to go. With this type of budgeting, whether income is high and expenses are low,… Read more »

Chris
Chris
5 years ago

this is a great article. Pay yourself first is the first step to saving. I also suggest that the key component to everyone’s retirement plan should include life insurance.

Linda Vergon
5 years ago

(This comment came from Dave, a reader of our daily newsletter.) Love the blog. Question on monthly spend tracking as this type of scenario has happened enough that it would be great to see your thoghts. The example is … I paid $700 for multiple room/nights at a hotel during September. I was owed $500 that was provided to me in October. Typically … if this happened in the same month…I would count the $500 as a credit against the $700 and just have the net spend be $200. But….since it happened in two different months….would you count all $700… Read more »

HKR
HKR
5 years ago
Reply to  Linda Vergon

I do a double-entry ledger for my personal finances and have a “fun fund” too. I treat it as a rolling fund, so for example if I budget $100 every month to the fun fund but I only spend $50 in Sept, the remaining $50 rolls to Oct and I have $150 to spend in Oct. Every once in a while, it works the opposite to; I want to do something extra special, so I might spend $150 in Sept, roll over negative $50 to Oct and then only have $50 left to spend in Oct. So in Dave’s case,… Read more »

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