While a W-2 employee’s paycheck handles withholdings automatically, an independent contractor’s income—which may come weeks or months apart—requires them to decide what happens with every dollar.
Because their compensation arrives irregularly, real estate agents need to decide where the money goes before it hits their checking account, starting with taxes, then business expenses, savings, retirement and, finally, personal spending.
According to Tongo co-founder and CEO Brandon Wright, agents go into real estate to sell, not to be their own CFO, tax planner and benefits administrator. Wright said that the root cause of most agent financial woes is the manual budgeting required of their income.
Irregular Income Makes Traditional Budgeting Harder
Wright describes agent income as “super lumpy,” pointing out that most agents can only plan their income 60 days out.
That requires real estate agents to budget backwards: not around fixed, income but around the amount they reliably spend. That means looking at:
- money the business has earned
- money the business needs to reserve for future expenses
- money available to the agent personally
Many times, agents overestimate the money available to them personally, which can get them into trouble in financial planning. They often mistake that all of the money coming in belongs to them, when really they need to account for business expenses, taxes and reserves for future expenses.
Start With the Money That Isn’t Really Yours
Wright suggests that for better financial management, agents should think about the money they can’t spend on personal needs, which is what they need to put aside for quarterly taxes, business expenses and savings. Agents should think about tax reserves “like trust funds. It’s in escrow. I can’t touch it,” he said.
He suggests that self-employed agents plan for estimated taxes and quarterly tax payments, which means setting aside at least 27% of net income, each time compensation comes through, as a starting point. Wright said that an agent’s actual tax liability will depend on income, deductions, filing status, state and other factors. And while this is a general rule, agents should speak to a financial advisor or accountant familiar with independent contractor status for proper tax and financial planning.
Wright believes that automation is the key to consistent saving, because knowing you need to save isn’t the same thing as actually saving.
For agents without a plan, generally money comes in, gets deposited in the checking account and then the money gets spent. Agents are left with no savings and scrambling to pay taxes later.
Instead, Wright suggests that money for taxes should be treated like a bill, and money needs to be set aside as soon as the check clears. After that, the agent runs the business with the operating fund that remains, which also covers their personal expenses.
Thus, an agent will need separate “pockets” for:
- taxes
- retirement and investment
- business operating expenses
- personal and discretionary funds
“Every single check, you can say, I want this much to go into my tax savings account, this much to go in my solo 401k savings account, the rest goes into checking,” says Wright.
Don’t Confuse Business Cash With Personal Cash
It’s important for agents to understand that business cash and personal cash should be separated when planning.
Agents often “conflate business and personal” finances, Wright said, using personal checking accounts and credit cards because their irregular income makes traditional business credit harder to obtain. That also makes it harder to manage taxes.
By opening and maintaining a separate business account, agents can use business income for its intended purpose rather than trying to carve it out as needed from a pool of money that’s shared with personal obligations.
Over time, the agent’s financial planning can become more sophisticated. Creating an escrow and determining a salary are options down the line. But first, agents need to get comfortable with establishing a reasonable personal monthly draw and leaving excess cash in the business.
Once achieved, the feast-or-famine cycle becomes less extreme, allowing the agent to more easily weather the ups and downs of the market or a delay in closing.
One Financial Habit to Get Started
If an agent does only one thing the next time they’re compensated, what should it be?
“The first thing is have a sense—a realistic sense—of what you’re going to earn, and then you can do the very basics of budgeting,” Wright said. “Just start with taxes.” That allows you to mitigate the stress of tax time, not to mention fees and penalties for late or incomplete payments.
Taxes in a separate account. “That is an outstanding starting point,” Wright said.
