Slashdot Mirror
Best Billing Options for a Contract Position?
ffatTony asks: "I've finished college and found a great job, but
now I'm surrounded by a number of contracting options without any real
explanation of why one is better than the other. I hoped the more
experienced among you could provide some insight. The three options
presented to me are (1)Corp to Corp (100% payrate), (2)Independent
Contractor (86% payrate), and (3) W2 Employee (62% payrate and a
moderate weekly expense stipend). I understand that for the first two,
I will need to pay self-employment tax. And in the first case I'll
need to start a corporation (<$100, I'm assured), get an
insurance policy, and workman's compensation. I'd like to hear about
your experiences and any hidden fees that may be associated with each
option. What do you all suggest? (Yes I'm going to talk with an
accountant as well). Also can anyone suggest an online source that
explains exactly what is tax deductible."
And in the first case I'll need to start a corporation (under $100, I'm assured).
Assured by who? If you can figure out how to start a corporation in your home state for less than $100, you need to tell me how. Most states charge more than that just for the corp license. Check out any of the incorporation web sites, and take a close look at the fees just for the state alone - before the lawyers get involved. Here in Texas, it's something like $260 if I remember right.
For what it's worth, whoever is assuring you that shouldn't be trusted for anything else they tell you, either.
What's your damage, Heather?
Corp to Corp - You are responsible for everything. All the money goes to you. Can give you better leverage in contract dispute.
Indie Contractor -- Most of the money goes to you. Depening on whether or not you work through a contract managment company, you may or may not have to handle insurance and taxes by yourself (note: this can be a big time suck).
W2 Employee - Not all the cash, but big brother takes care of a great deal of annoying crap (health insurance, taxes, office supplies, travel expenses, you name it and you can probably weasle a way to get your employer to pay for it).
Best of luck.
-- RLJ
you're going to need to fill out a 1040z.. one thing i can advise you if you're going to consult/freelance/contract (they're all pretty much the same) :-) is that anything you purchase... gas, work related material, even taking out someone to dinner... save the receipt... you can get A LOT of write offs on your taxes... and don't be ashamed... just don't purchase a plane flight to the Bahamas and consider it a business trip... but you know what i mean... i've been doing that for 2 years already and it works out great... remember... your accountant is your friend ;-)
Also, check out the Independent Computer Consultants Association... it's a site set up for guys like us for information on consulting and so forth
best of luck
Option #1 might be a bit more complicated, but believe me, in the long run, you'll benefit from it. But read to the bottom of this. :)
The main thing is the fact that according to US Tax law, the things you can deduct as "Employee Business Expenses" are very limited. As a corporation, you are able to deduct anything that is "reasonable and necessary" (subject to some exclusions), both of those things are relatively easy to prove.
Example: You go to a hacker conference (at your own expense). You won't be able to deduct these expenses if you are just an employee.
There of course are some downsides: As employee you are covered by labor law, and generally you have a lot more rights (fair termination, timely pay, etc). Corporation doesn't have any more rights than specified in the contract, and you have to collect payments yourself, and sometimes clients are very slow in paying. Generally, the bigger the client is, the slower they pay. Big Wall Street companies sometimes take 90+ days to pay up. On other hand, they won't go bankrupt...At any case, it does good if you specify in contract terms like "2% discount if payment is within 2 weeks", sometimes that gets accounts payable moving quicker.
You will have to buy your own health insurance, and individual health insurance is quite expensive (50% more expensive than group quote at times), so do include that in your total costs for #1.
Some clients insist on liability insurance policies for your company before they can do business with you. These can run from 500 to 1500$/year, depending on what client requires.
Also, yes, its a lot more paperwork, and you MUST have an accountant to do your taxes, payroll, etc. Without it, you are a sitting duck for IRS.
There are alternative solutions, trying to combine best benefits of #1 without all the hassles: There are "fair" consulting companies that take care of all paperwork, your client's credit risk, health insurance, payroll taxes etc, while still allowing you flexibility to buy certain things tax-free and enjoy other benefits of being incorporated.
"Fair" here refers to the fact that such company charges for its services a small percentage (2-10%) of your total income, while in general, consulting companies rip you off (sometimes taking 66% of your client's fee!).
The way it works is this: Assuming you already have a client and an agreed rate, you come to such a company, and after a few sanity checks, you become an employee of this consulting company, and consulting company signs the contract with your client at an agreed rate.
Then, whenever you need to spend money on something is tax-deductible, you pay for it with company's credit card. This money will be deducted directly from your next payroll check "above the line" (i.e. before the taxes are computed).
I do that for bunch of my friends for free, and I'll certainly consider doing it for others (with minimal fee, to cover my costs), so just let me know if someone is interested in this arrangement. Alternatively, search the web, there are a few companies whose business is explicitly what I described.
If you set up an S-corp, then it doesn't have to pay any taxes. Instead, all tax liability gets passed on to the stockholders. S-corps are usually used for businesses that will show a loss for tax purposes, allowing the owners to reduce their taxes, but they can be useful for consultants as well. One nice trick is to pass 50% of the profits to the owners (i.e., you) to cover your tax bill, the rest stays with the company to cover business expenses (computers, cell phones, etc.).
I understand that LLC's offer the same tax advantages as S-corps, but I've never owned any of them.
Nothing for 6-digit uids?
Not too much of a hassle, but then it really depends on what state you live in (physically, not mentally). I live in Minnesota so I have to pay a boat load of state tax as well as federal. I was 1099 for a couple of years and didn't mind it since I was able to write off computer books, equipment, etc... April did hit hard because I didn't save any money during the year but that's what "cash advances" are for, right? :)
There are a lot of little things that can get tricky depending on your state. Things like writing off mileage and such can get hairy, or you could just take the lazy route and not write that off as I did then you don't have to worry as much come audit time. Of course if you are driving 100 miles a day to different sites then keeping track of your mileage would give you a little tax break. I had a desk so I couldn't write mileage off to my main employer and I only went on site 4 or 5 times a year within 20 miles so the $5 I would have been able to write off wasn't worth the hassle of keeping track of my mileage.
Speaking as a consultant whose works all over the globe, the best option is to ---
Set up a corporation in places that don't tax you to death - Hong Kong, Singapore, and Virgin Island come to mind.
Whatever you do, you do it under the corporation name - that is, you pay yourself (from the corporation sense) just enough to not pay too much personal income tax to Uncle Sam, and the remainder profit you can store in your "corporation".
With another layer of "corporate fat" to insulate you from the greedy fingers of the IRS, you can do much wonder.
Muchas Gracias, Señor Edward Snowden !
1. If you work corp to corp, yes, you do have to start a corporation and pay taxes. Typically, you get bilked, because your corporation must hire you, and pay you a salary. Not only will you have to pay taxes on the income you are paid by your own corporation, but your corporation will have to pay taxes on the money they pay you. Any additional income is subject to taxation as well - and unlike an independent contractor, you cannot just seize any excess cash in the corporation and claim it as your own.
Its only that difficult if you form a Chapter C corporation. A Subchapter S is simpler (and avoids the double taxation), and an LLC is downright easy (at least in Florida, where all you have to do to maintain it is to register it for about $100 and pay the $50 renewal fee every year). You also don't have to go through the hassle of hiring yourself and paying yourself a salary, since all the profits from the LLC not reinvested in the company are distributed between the owners, and that distribution is only taxed in the owner's personal income tax (under Florida law). The best way to go is probably LLC (or LLP), but not all states allow LLC/LLPs.
I can share quite a bit about this, since I have started and run two subchapter S corporations for exactly this purpose.
I started my first one in Texas in 1993, operated it until 1996 and sold it to one of my employees. Then, I moved to Michigan and started another on in 1997.
When I started the one in Texas, I didn't know what the hell I was doing so I paid a lawyer to do all the filing for my corp, fed tax id, state forms, etc. Net cost $900.
In Michigan, I generally knew what to do, but found it easier to pay an Internet company to do it for me, www.bizfilings.com. Net cost $319.
If you do decide to incorporate, go with an S-corp, it will save you a lot in tax dollars, but also do lots of research on your state laws. Texas has no state income tax, Michigan does. I have to file 25 or more reports each year:
It can be overwhelming if you are not prepared. I do all my own returns except for the annual returns which are complicated enough to bring in my accoutant. I also buy general liability and workers comp insurance which runs about $700 a year. The only reason it's so low is I'm only insuring myself. In Texas, I had 6 employees, but now I'm a lone gun. A lot less stressful that way since I only have to keep myself employed.
Now, I don't want to poo-poo the idea, because for me, the benefits far outweigh the extra gruntwork. I have a lot of flexibility in my hours and the kind of work I choose to do. I answer only to my customers and if they piss me off, I can move on more easily. I would rather deal with the hassles of my own biz than the hassles of corporate life. But that's me. I also didn't have the guts or experience to even try something like this until I had about 8 years of experience in the industry. (I started life as a mainframe COBOL programmer for EDS back in the day).
So, it's not easy, but if you can pull it off, the rewards are oh so schweeet. Good Luck!
Option #2 is the route that I took....not as much paperwork a lot more freedom to move and improve your skill set. If you do a good job, you are very, very secure. The problem with people saying "Go with a FTE position" is that when it comes to crunch time, companies really don't care about who is an employee or who isn't. Compaines keep skill sets. If you are sharp and can put together a good contract (make sure you have a clear mandate!) a company will hold on to you over a FTE with a less extensive skill set.
-- What? Another
Lots of interesting comments below. As far as option (1) is concerned: Although being in business for yourself is a Good Thing (I've had my own business since 1980), this is not a step to take for tax reasons or billing rate reasons or because of any similar short-term economic calculation. The reason to have your own business is to be an entrepreneur -- to be your own boss, and to accept all the plusses and minuses that go with that. In general, few newcomers to business should take this route; it's better to spend some time in the trenches, and learn firsthand whether a) you hate the bureaucratic bullshit and would rather take responsibility for everything, or b) you are willing to trade some bureaucracy for the security of not having to sell every billable hour, having a regular paycheck, getting health insurance, getting some coverage for periods of weak business, etc. For me, it's a no-brainer, but for most people, this independence is terrifying. And you simply won't know how you'll feel about it until you've been over the ground on both sides. IOW: It doesn't hurt to be a wage slave for a while.
Consider a parallel (actually orthogonal) argument: It's never a good idea to make a business decision or an investment decision purely for tax reasons. Why? Because, though tax issues might affect your tactics, they should not dictate your long-term strategy. Taxes should never be more than a detail. So, in the same way: Going into business for yourself is a huge decision, and it should not be done for a few apparent percentage points in billing rate. Those tradeoffs will all disappear. Instead, there's a much more fundamental choice involved that will affect you for many years, and so this choice should not be taken lightly, either way.
If you don't immediately understand what I'm saying, then you probably should spend a little more time in the trenches getting a sense for how business works. Eventually, you'll see a stark contrast between those who do-for-others and those who do-for-themselves, with advantages on both sides.
Here's another way to view the contrast. Picture an experienced chef who works for a Marriott hotel, and contrast that career with that of a chef who owns a bistro in a small town. They both do similar technical things; but their lives are very different. They each face real risks -- each job can be lost due to bad sales, because of bad employees, each can get sick, etc. -- but the chef/owner accepts a much broader range of challenges and makes a longer personal investment.
I hope these comments are useful. Obviously, there's a certain fungibility in contemporary consulting contracts that makes an independent tech contractor less like a chef-owner. Yet there's no intrinsic reason this contracting/employment situation must persist. After five years as a quasi-independent, you might find that you've either a) falsely convinced yourself that you're really running a small business, without a good enough understanding of the business side to make it on your own for the long term; or you've b) cut yourself out of a legit corporate job, if you're really a PHB at heart; those years as a corporate gofer are important training if you want to play those games. And there's nothing intrinsically wrong with aspiring to be a PHB. We joke about it, but most of us wind up seeking that path.
HTH
-- We all have enough strength to endure the misfortunes of other people. La Rochefoucauld
I tend to agree but you'd better get legal advice. I set up an LLC some years ago and the whole thing cost around $600 -- lawyer fees etc. On the other hand, the annual fee to the state to maintain this is $10.00. Although I'm currently salaried I do pay this just to keep it going.
The "bad" things about being self-employed,in my opinion,are:
Extra Social Security.
Hideously expensive medical insurance.
The fact that Uncle Sam doesn't let you deduct all of the medical premium (but if you're salaried your medical insurance is a benefit). My accountant referred to it as "BOHICA" - Bend Over, Here It Comes Again.
No work, no pay (now I get 20 vacation + public holidays + sick time)
You only get hired for what you know but if you're salaried there's always a chance of employer-paid education.
But, whatever, good luck.
Good luck!