Switch from Fixed-Price to an Hourly Rate as a Freelancer

The estimation problem

<span class="blog_big-paragraph">Many freelancers had cases where a project with a pre-agreed amount ended up going beyond implementation because of seemingly insignificant changes on the part of the client. These details are so tiny that many freelancers would feel bad about taking money for these changes.</span>

But the problem here is that it might take 10, 50, and sometimes even more hours to implement such petty wants, and as a reward, you will still get only your pre-agreed fixed price.

In this article, we want to show you the way out, which is to set a hourly rate. In this case, when the client has new ideas - you can safely include the additional hours in the invoice. Get comfy in there, because we are about to tell you all the nuances you'll need to consider when switching to hourly rates.

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Why switch to a hourly rate

First, you are compensated for your time. You trade your time for money now. So you won't have any more situations where you have to make changes without money. Everything is fair and just.

Second, the projects are more in line with the budget. Here, your clients will no longer be as enthusiastic with new ideas coming up all the time. They will keep in mind that changes in the original project scope will affect their budget.

Third (speaking of budget): You can even act as an advocate for the client's budget. If there is a scope creep and the client wants changes, you can say something like:‍

"Sure, this is possible, but it will take a long time. Wouldn't it hit the budget? And will this solve the problem?"‍

A completely different tone and context, right? You are thinking about the client's problem and the ways of resolving it without additional costs. Therefore, you will be a good person and the protector of the budget in the client's eyes.

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Pros and cons of a hourly rate

Switching to an hourly rate is an excellent and fair method of rewarding your time. And, as with all things, there are pros and cons to consider in this approach.

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Pros:

1. You are guaranteed to receive money for your time.
This is an excellent approach if you're working with a new customer or on a project that could drag on or become slowed down by numerous modifications. A per-hour rate makes sense in both of these situations because charging a flat rate per project may result in a lower overall return on investment.‍

2. You can keep track of the amount of time you spend on each task.
Time tracking makes it simpler to bill for your work that fairly represents the time spent on a project, taking into account things like client communications, unforeseen adjustments, etc. There are many cool tools for time-tracking, like Timely or Clockify.‍

3. There is less pressure on your schedule.
An hourly rate gives you more flexibility and control over when you work. It could be 20 hours a week, or it could be 2 hours - you are in charge of your own time.

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Cons:

1. You will need to earn the trust of potential customers.
Paying by the hour puts you in an advantageous position, whereas a client who hasn't worked with you can't boast of such a position. And if you have a good reputation, a great portfolio, and references that bring you word-of-mouth clients, then that's fine! But if you have difficulties with attracting customers, and you have to look for them yourself, then the hourly rate can scare the clients away.‍

2. Cost estimates for large projects are challenging.
It becomes difficult to calculate the precise number of hours needed to accomplish a job when it becomes more complex. This could lead to the freelancer performing additional work for no additional pay or charging the client more than originally planned. In either case, the freelancer loses out.‍

3. In the future, you may become a victim of such billing.
With more experience, you'll become more proficient at executing some tasks more quickly the more experience you have. Paying less for improving at something doesn't make sense, does it? An hourly fee may not be the ideal option for projects where the value to the client is considerable but the time you put in is slightly less. For example, you are already a cool expert in UI/UX design, you charge hourly (let's say $60/hour), and the client asks you to design a landing page. If you know that industry professionals charge a flat fee of around $1500 - $3000 for a landing page and you can do this work in two days (it will take you about 12 billable hours) – you will just earn $720 instead of $1500 or $3000. Not so fair, is it? We'll talk about it at the end of the article.

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How to calculate your hourly rate to remain a winner

Since you are reconsidering your strategy and want to start selling your time directly for money, you will need to calculate your bid competently. And do it in such a way, so that you are a winner, and not just earning some bucks. You should consider not only compensating yourself, but also covering your expenses (which include business taxes), and giving some of your company's profit back for expansion and future investments.

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Determining your freelance expenses

You must be aware of your freelancing company expenses, which include things like: rent, phone, internet and utilities, office equipment, website hosting, subscriptions to various tools and software, taxes, and more. As an example, let's assume an expense of $15,000 per year. Let's add health insurance to that (say $12,000 a year).

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Deciding how many hours you will work

You need to decide how much you are going to work. Consider the number of weeks you will work each year, the number of hours you wish to work each week, and the proportion of billable hours that will be spent each week.

Note that not every hour at work will be billable. Because you will also need time to do activities like marketing your services, making sales calls, invoicing clients, and more. For example, if you plan to work 40 hours a week, not all 8 hours a day will be billable. You need to consider that 1 hour will be spent on lunch, and another 1 hour will be allocated to admin work like emails, phone calls, etc. You are left with 6 hours that will be billable.

Also, take into account that you will not work all 52 weeks a year. You will have days off, like vacation, holidays, and sick days during the year. In our example, 30 days will be the total of days when you will be out of the office.

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Consider your desired freelance profit margin

By profit we mean the money that you will have available to reinvest in self-development and learning something new, streamlining your systems and procedures, marketing your services, generating more leads, securing new clients, and expanding your freelance business. Profit is what remains after paying your salary and all business-related expenses. Let's consider you aimed for $120,000. And you want your profit margin for client services to be 10%.

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Calculating a Minimum Hourly Rate

Now taking into account all the numbers mentioned above, let's do the math here.

Take your goal of earning $120,000 a year and add all of your annual expenses, as well as health insurance:‍

$120,000 + $15,000 + $12,000 = $147,000 of total business expenses a year.

Now, we add 10% of the profit margin to the total expenses:‍

$147,000 × 1.10 = $161,700 of the total cost for freelance services

Let's calculate how many billable hours we get per week:‍

6 billable hours per day × 5 days per week = 30 billable hours/week‍

Taking into account the 30 days a year when we will not work, calculate how many hours that will not be billable:‍

30 days off × 6 billable hours per day = 180 hours not billable/year

Let's now calculate the exact number of billable hours a year:‍

30 billable hours/week × 52 weeks = 1,560 of total billable hours/year‍

1,560 of total billable hours/year - 180 hours not billable/year = 1,380 of actual billable hours/year

Now that all the necessary numbers are calculated, the final touch will be to calculate the minimum hourly rate:‍

$161,700 of the total cost for freelance services ÷ 1,380 of actual billable hours/year = $117/hour of a minimum hourly rate.‍

We have identified our minimum hourly rate. And keep in mind that this is not the final amount you can name. On the contrary, it is the minimum amount from which you start.

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How to switch to an hourly rate: practical steps

Sending a proposal

The important thing here is to structure your offer in roughly the same way as the rates you have used in the past. Only now you will already be based on your hourly rate. Let's say your client needs to design an E-Commerce store, and you know that it will take you about 80 hours. Accordingly, a sample text of your proposal might look like this:‍

"Hello [name of the client],

I estimate that the design of an e-Commerce website with 10 pages, including a Dashboard page will take about 80 hours, which would be around $9,360 based on my prices which you can find on the Pricing Page of my website".‍

Already on the Pricing Page, you can specify an approximate estimate, which may look as follows:

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Invoicing

You've put in the time, have done work, and your client is happy. Now it's time to invoice them for your services. Here are the major tips you need to keep in mind:‍

If you've made a mistake during the project, don't charge for it.
We all make mistakes, and there is no problem with some omissions during a project. But demanding money for your mistakes is unfair and almost always leads to bad consequences. So, if you need to fix something, just make the change and send the updated work back to the client without any additional invoices.‍

Inform the clients about the additional costs.
This will help them understand why they're being charged more than expected and can help you avoid any misunderstandings in the future. For example, if you're going to be using a third party for delivery or printing, you'll need to include that in your invoice.

Explain all of the items on your invoice so that the customer has no questions. Provide the list of the services you delivered, including details such as how long each task took (if applicable), who was involved in it, what type of work was done, and any other pertinent information. All this data will help the client as clearly as possible to understand where the money went and for what.

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The hourly rate is not the limit

So, we've looked at how you can switch to an hourly rate, and do it profitably for yourself and your business. But how are things in terms of the prospects of such billing? As mentioned earlier, freelancers can be penalized for the hourly rate, especially when they already have enough experience and are experts in their business.

We believe that this is where you need to start changing your mindset and think more about results and value to the client (instead of results and the cost of your services). This fundamentally and positively changes the dynamics of working with clients. Rarely do service providers get into a sales conversation, take a project completely off the table and start talking about results.

But if you do that, clients quite often like it, and discover more about what they're trying to accomplish. Then you know how you can make the project outstanding for them. You'll never get there if you start talking about hours the first time you meet.

That's how you start providing the highest level of service, and that will immediately lead to attracting more valuable clients. And where there are more valuable customers, there's more revenue for you.

Remember - the hourly rate by itself should not be the ultimate goal (at least not for experts who think about the value they bring to a project). Accordingly, you can use one of the two tactics we suggest:‍

Fixed pricing anchored to the value.
The strategy where you think about the outcome to the buyer, and not about your cost-to-delivery. So you let your client know that you're not just interested in making money, but also in solving his business problems through your solutions. And accordingly, you can command higher prices.

And it's also great because it allows you to be flexible - you know exactly how much work is going to be done, the volume is limited, and he can add a big markup to cover any unforeseen changes. For example, maybe you have an order for a logo design, and you have negotiated a $4,000 fee. As a seasoned professional in your field, you might be able to complete the project in 1 hour and have $4000 in your pocket. But here you also need to consider that you may have a large number of revisions (if not negotiated in advance).‍

The hybrid of a flat fee and hourly rate in case of changes/update.
In this case, you still have the negotiated amount as well, but with the indication that the hourly rate will be applied for any changes. And this specifies the minimum number of hours per month. I.e. if a client has a change that needs to be done this month - that's a minimum of 4 hours at $117/hour, for example. And even if it only takes you 30 minutes, you can bill for 4 hours (again, by agreeing to all this in the contract beforehand).