How much do I charge? (Covering your costs and protecting your profit)

Are you pulling your hair out trying to figure out how much to charge?

You’re not alone.

This is one of those questions that just about every one of my clients asks me.

So I thought it would be a good topic for an article.

It’s a big topic though, so I’m definitely not going to cover everything today.

I’ll start by introducing some of the typical models that people use to get paid, then go into one of them—charging an hourly fee—in more depth. Even if you don’t plan on charging by the hour, this article goes over some basic concepts that you need to know in order to set a suitable fee no matter what your payment model is. So don’t’ skip it!

Payment Models

When it comes to running a business, there are various models for how you charge for services or products.

Some typical ones are:

·         Charge an hourly fee
·         Charge a fixed, total project amount
·         Charge a commission
·         Be hired on retainer

To some extent, which model you choose is up to you. However, certain types of businesses tend to use certain models (such as hourly rates for mechanics, or a fixed total amount for a course).

Today we’re going to look at the first of these models—charging an hourly fee—and begin talking about the things you need to take into account in order to decide what that fee will be. We’ll get about halfway through that topic, then finish it up in next week’s post.

Charging an hourly fee

Charging an hourly fee may seem like a straightforward way to sell your services, but it’s actually not as simple as it seems on the surface.

Yes, the basic math is easy.

hourly rate   x   number of hours worked


But the problem is coming up with an appropriate hourly rate.

When many people first go into business for themselves, they often come up with a rate based on what they were paid in previous work as an employee. Compared to, say, $30/hr, $40 might sound like a great rate. But when you run your own business, you have lots of expenses that you didn’t have as an employee, and those costs can eat into that $40 rate pretty quickly.

So the idea is to set a rate based on what you would like to be paid PLUS any expenses you will have.

Here’s an example.

Wally is an IT Technician who wants to work for himself setting up and maintaining computer systems for small businesses. He currently has a full time job at which he earns $32/hr. His initial idea is to charge $45 per hour, which would be a nice step up from $32. But let’s look at the expenses he would have for one sample project, if he became self-employed.

A potential client is renovating his store and wants to hire Wally to move all the existing computers to the new counter on the other side of the store. To keep it simple, let’s assume that there are no new computers or cables or other equipment required, so Wally doesn’t have to supply any of that.

He estimates that it will take him 4 hours to complete the job. At $45/hr, that equals $180.

But let’s look at what his ACTUAL take home pay would be. That means taking into account two things:

  • Expenses. Although Wally didn’t have to purchase any equipment or supplies, he still has some expenses. He spent money on gas to get the job. He also spent money to purchase the vehicle in the first place, and he pays for maintenance, oil, washer fluid, etc. Yes, it is his personal vehicle, but each time he drives to a job he is adding mileage, and that ends up costing money. He also had to buy tools such as pliers and wire-cutters.


  • Let’s estimate those costs as:


  • Gas:                   $8

  • Vehicle costs:     $7


OK, that’s only $15 off of $180, for a new total of $165, but let’s keep going.

  • Total time; In addition to the 4 hours Wally spent on site, he spent a number of other hours on the project.

  • 1 hour -- Time spent in initial client meeting

  • 1 hour -- Time spent travelling to site and home again for that meeting

  • 1 hour -- Time spent preparing plan/quote/specs/invoice

  • 1 hour -- Time spent travelling to site and home again on day work was done


Now the total time the project took has increased by 4 hours, for a total of 8 hours. So Wally’s new hourly rate is:

$165/8 = $22.63


So, in reality, he is making significantly LESS than he was as an employee.

In order to still make $45 per hour, he would have to charge his client $93.75/hr.

$93.75  x  4 hrs  =  $375 -  $15 (expenses)  = $360 / 8  =  $45


So now you can see the problem with just using what sounds like a good rate. You actually have to take into account ALL of the expenses you will have, and ALL of the time you will spend, in any way, on a project.

Let’s now take a closer look at expenses to see how they affect your bottom line.

Expenses

Expenses fall into two categories: billable and unbillable.

Billable expenses are expenses that can be completely attributed to ONE project. They are purchased solely for that project. In Wally’s case, it might a computer or cables. If you charge an hourly fee, billable expenses are often charged as a separate item on the invoice.

Here’s a sample:

Services:                            $4 hours @ 93.75/hr                       = $360

Equipment:                        1 computer @$500                         = $500
                                           Cables & hardware @ $80              =   $80

                                                                     Total:                       $940

Billable expenses can be charged to the customer at cost, or you can mark them up. That depends on you and your business model.

Billing separately for expenses solves a few possible problems.

  1. If equipment/supplies are incorporated into the whole, then you would have to calculate a new hourly rate for each project.

  2. It offers transparency for customers, which they appreciate.

  3. It keeps the math simple.


Unbillable expenses are those that are incurred to run the business, but not specifically for only one project. For Wally, that might be printer ink for his home office, or insurance for his vehicle. Gas for a vehicle is usually considered unbillable, since it is difficult to determine exactly how much you spent to visit a certain client. However, some companies do treat gas as a billable, and charge for it, usually as “travel”. A typical example is furniture stores, who charge delivery fees. Part of those fees are meant to cover the cost of gas.

Wally’s unbillable expenses might include:

  • Vehicle cost, maintenance, insurance, and gas

  • Tools

  • Uniform

  • Office supplies

  • Postage

  • Office computer and related supplies

  • Utilities (phone, internet)

  • Business insurance

  • Advertising

  • Accountant/lawyer fees


Too often, newly self-employed people don’t take these types of expenses into account. They’re not as visible as billable expenses, and it’s also hard to calculate what portion of those costs can be attributed to any one job. But you have to cover these expenses somehow, and that is typically done by marking up your hourly rate.

Summary

We’ve spent this article talking about how expenses affect the hourly rate you choose to charge.
Remember, billable or not, you have to take both types of expenses into account when setting your hourly fee. You need to make sure you are charging enough to pay for all expenses you incur and still have enough left to pay yourself a decent wage in the end.

Next week we’ll cover total time, which is another variable you need to take into account when setting your hourly fee.


Cheers,
Tim
Helping you engineer the business of you


Tim Ragan