What you will not learn in this article:
- The Overhead costs of your own businesses as a Freelancer
What you will learn in this article:
- The definition of Overhead costs
- How to calculate Overhead costs for standard employees
- Why is it a competitive advantage for Freelancer
What is the concept of Overhead costs?
An employee working a 9 to 5 job in a company is the most standard case of employment in the world. This person has a monthly (or weekly, in some countries) salary and is expected to work a fixed amount of days during the year. You might negotiate performance or risk bonuses, but, generally, your salary is your main source of income.
For an employer, the salary is only a certain amount of the cost of employing a person. Salaries are taxed on the employer level, which means that if your employer gives you 100 000€ a year, the employer costs will actually be from 130 000€ to 190 000€ a year.
If this is common knowledge, the remaining costs are usually forgotten. This is what we call the Overhead costs.
Overhead costs are all the other expenses an employer has to pay for an employee to work effectively. Here is a list of the main expenses that need to be taken into account:
- Offices, furniture, and technical material
The location of work, even in a full-remote world, is at the charge of the employer. It can be a computer, a desktop, professional software, or the building rent for the office.
- Non-billable employees salaries
Basically, all the staff members' salaries that cannot be directly billed on a project or production line are considered Overhead costs. HR, Sales, Research & Development for example.
- Travels and mobility costs
Depending on the company, this item can be the least or the most expensive entry. In a company where clients are mainly local, you will probably only have to pay for Sales and Top Management car rental or subway tickets. But for a multinational company, travel will include flights and hotel rentals on a regular basis.
There are a lot of different Overhead costs but you get the idea. The company’s location and the market it evolves in will drastically change this list.
How to calculate Overhead costs for standard employees?
Again, these numbers will vary a lot depending on your country. I am based in Paris, France, and my calculations are based on the French market, but the concept applies to any country. Only the numbers will change.
A regular year has 365 days.
Based on 2021, you remove the weekends, 104 days, and the national holidays, 7 days in France. You have 254 working days.
Based on your country, you remove the contracted annual leave. In France, a standard employee has 25 days off (if you are not working in France: I know it is a lot. If you are working in France: stop complaining 😅). You have 229 billable days.
Every calculation you will now make will be based on this number. From salary to Overhead costs.
This means that, if an employee’s salary costs 150 000€ a year, the daily cost is not 410€ / day (150k divided by 365) but 655€ / day (150k divided by 229). This makes a huge difference and if you are a Freelancer, you know where I am heading.
You can now apply the different expenditures mentioned before to this daily cost by allocating each cost to an employee. This is a job for financial services. Generally, companies will define an Overhead percentage for their employees.
This percentage can vary widely based on the type of company. Generally, the standard Overhead percentage in Paris is 30%. Based on our previous example, the employee will cost 851€ / day (655 multiplied by 1.30) to the company.
In order to estimate the Overhead percentage, you can start by evaluating the number of people in the Sales team compared to the production team. You can also try to evaluate the number of square meters/feet per employee. The higher the number, the higher the Overhead percentage.
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Why is it a competitive advantage for Freelancers?
When a company hires a standard employee, the pressure to staff this employee on a project or on a production line is heavy. If a developer costs you 851€ a day, you want to bill this person on a project and staff this person 100% of the time. An employee that cannot be billed on a project is money lost on a daily basis.
If you hire a freelancer, most of the time, you hire this person for a specific project. Or for a specifically dedicated yearly budget. You avoid putting pressure on your sales team to find new projects to staff your employee. The world is moving fast. A company might need a team of 10 developers for a new project and then struggle to staff these 10 employees once the project is delivered. With Freelancers, once your project is delivered, you can end the mission of 8 of them and keep only 2 developers for the maintenance and “run” phase.
Some companies do not apply Overhead costs on Freelancers. Or at least not the same percentage. Because if it is true that most of the time the Freelancer will use the same facilities (Offices, desktops, computers), it is not the case for non-billable employees or travel costs. As the Freelancer is not part of the company, the internal costs do not apply.
This article was written after a discussion I had with one of my former managers and client. I am a Freelancer and I was asking him about the benefits of employing a Freelancer instead of a regular contractor, given the fact that the monthly bill for a Freelancer is visibly higher. But this sentence can easily be false if you take the Overhead costs into consideration.
I believe all Freelancers should know about this concept when negotiating daily fees. It can avoid awkward conversations about the fee being too high compared to a standard employee, thus trying to get you to lower your price.
If you are interested in this topic, I invite you to react to the comment section below. Feel free to ask questions or share your personal experience.
A thank you to my friend mentioned before who I had this discussion with and thank you for reading my lines.