- Cash flow is king. You've probably heard the expression "cash is king." But cash flow is even more important because it reflects having cash available to pay expenses, including your compensation and benefits. Service businesses run by IT consultants need to make payroll and meet expenses just like any other business. So pay attention not only to the amount of cash on hand, but the expected timing of income and expenses. Establish a business line of credit plan through your bank, if necessary, and manage it prudently.
- Keep business and personal finances separate. You need to create a "firewall" between your business and personal finances―don't intermingle money! Set up a separate business checking account and a separate business credit card. Don't worry about sacrificing frequent flyer miles or bonus points on your personal credit cards; you can get comparable benefits from a separate business credit card either or a personal card that you use exclusively for business. Having separate accounts will simply your affairs whether you hire a professional accountant or do your own accounting using QuickBooks, Freshbooks or a comparable software program.
- Insurance is the foundation of sound business practices and a personal financial plan for any IT consultant.No one likes insurance companies, but insurance is a necessary evil. Start with property and casualty insurance to cover your business property, including hardware and software, as well as liability insurance. This is particularly important if you have a home office, so make sure your homeowners coverage includes your business.
You should also insure your greatest asset, your ability to earn an income, with disability income insurance. The risk of an illness or disability keeping you from your job is real. Disability insurance isn't just for the physical laborer; a disability can keep you from your keyboard too. Explore a health savings account (HSA) as a way to accumulate cash on a tax-favored basis for current or future health insurance expenses, especially future health expenses since you are the source of "employer retiree health insurance." - Don't cash out retirement plans when you leave your old employer to start your new consulting practice. If you were an IBMer, you have great investment choices so consider leaving your money in the IBM plan. The tax penalties from cashing in a retirement plan are punitive and, more importantly, you will lose the tax-deferred compounding benefits of your current balance. Explore every possible source of cash to start your business. Remember to ask yourself, "Do I want to be an IT consultant forever, or do I want to retire someday?"
- Manage your income taxes properly. Make timely payments either through withholding as you pay yourself or by making quarterly estimated tax payments to the IRS. Set aside reserves during the year, if necessary. Don't think you can "catch up" later. Understand the difference between "pre-tax" and "after-tax" income and remember that you can only spend "after-tax" income. IT consultants can be an IRS agent's dream.
- Start a retirement plan. An individual 401(k) is ideal for IT consultants and is available at most mutual fund firms. A traditional or Roth IRA may be viable depending on how much you can and want to save. An individual 401(k), either traditional or Roth, allows for more savings than an IRA. Start early, even if you have to start small. If you wait until age 35 you would have to contribute 9% of your income to have the same amount at retirement as a 25-year-old who started out contributing 6%. Starting at 3% of income is better than zero. The amount you contribute has a much bigger impact on your long-term success than your investment returns. Also, minimize fees and expenses to maximize your long-term returns.
- Have a strategic plan for your IT consultant business.Create a strategic plan that allows you to identify your ideal client; the way you charge for your services; the profitability that provides your compensation and benefits plan; the way your will market yourself so you continue to have clients in the future; and a succession plan or transition plan to your retirement. One of the great benefits of IT self-employment is the ability to have a flexible work schedule and a smooth transition into retirement. You may even choose consulting as a way to supplement your retirement income without having to quit a traditional corporate job cold turkey. Enjoy!
Bruce J. Berno, CFP® is the founder of Berno Financial Management, Inc. a fee-only comprehensive personal financial planning and investment advisory firm headquartered in Cincinnati, Ohio. Since 1993, Berno Financial Management has been helping individuals and families achieve financial peace of mind. For more information about Berno Financial Management, visit http://www.bernofinmgt.com/.
