Many small companies pick an hourly rate by looking at what others charge, or by choosing a round number that feels fair. Sometimes it works. Often it quietly loses money, because the rate was never compared with what an hour actually costs to deliver.
This article gives a way to calculate the number in about an hour, with figures you already have.
Step 1: Add up yearly costs
Take the last twelve months and total everything it costs to run the business, not only wages:
- People: salaries, employer pension and National Insurance contributions, training. Include your own pay as an owner, at a realistic market salary.
- Tools and equipment: software subscriptions, laptops, phones, licences.
- Premises: rent, utilities, coworking, insurance.
- Services: accounting, legal, banking fees, marketing.
- Other: travel that you do not recharge, bad debts, a small reserve.
Your accountant's profit and loss statement is the quickest source. If you are self-employed, GOV.UK explains which expenses you can claim, which is a useful checklist of costs people forget.
Step 2: Add the profit you want
Costs alone give you a break-even rate. A business that only breaks even cannot invest, survive a bad quarter or pay for a mistake. Decide on a margin on top, for example 10 to 20 percent of costs, and add it. The exact figure matters less than having one.
Step 3: Count billable hours honestly
This is where most calculations go wrong. A full-time person has about 2,000 working hours a year on paper. Remove holidays and public holidays, sickness, training, internal meetings, admin, sales and quoting, and time between projects. What remains is usually 50 to 70 percent of paid hours for a small service firm, and often less for an owner who also sells and manages.
Do not guess. Take your time records or invoices from the last year and count the hours that were actually charged. If you have no records, start with 60 percent and correct it after three months of tracking. Professional services firms often lose billable hours to small tasks nobody records, so tracking itself can raise the number.
Step 4: Divide
The formula is simple:
Hourly rate = (yearly costs + target profit) / billable hours
An example. A three-person studio has yearly costs of 240,000, including the owner's pay. It wants a 15 percent margin, so the target is 276,000. The team has 6,000 paid hours; 60 percent are billable, which is 3,600. The rate is 276,000 / 3,600, about 77 per hour.
If the same studio had divided by 6,000 hours, it would have quoted 46 per hour and lost money on every project while looking busy.
Step 5: Treat the result as a floor
The calculated rate is the lowest rate at which the business works. Your quoted rate can be higher, and should be when:
- you are booked for the next two months;
- the work is specialised and few others can do it;
- the customer gains a lot from the result.
It can be lower only on purpose: a strategic customer, a slow month, work that fills a gap. Write down when you do it and why, so that exceptions do not become the rule.
Different roles also have different costs and different billable shares. A senior person with a higher salary and a lower billable share needs a higher rate than a junior person who bills most of the day. Calculate by role if the difference is large.
Step 6: Check against fixed prices
If you sell fixed-price projects, convert the price back into an hour: price divided by hours spent. A project that nets 40 per hour when your floor is 77 is a loss, however good the invoice looks. This is also the best way to see which kinds of work to price higher or stop selling. The cost of one hour of manual work uses the same logic from the customer side.
Step 7: Review once a year
Costs move, and so does the billable share. Recalculate at least once a year, and again after a hire, a big supplier change or a clear shift in demand. A yearly price review is a good place to do it, with a named person who decides.
Where AI tools fit in
An assistant can help you sort a year of costs into categories or build the spreadsheet. The inputs, the margin and the decision stay with a person who knows the business. Avoid pasting confidential payroll or customer data into a tool that your contract does not allow.
What to do this month
- Total last year's costs, including your own realistic pay.
- Choose a target margin.
- Count billable hours from records, or use 60 percent and track.
- Calculate the floor rate and compare it with what you quote now.
- Check three recent fixed-price projects against it.
This is general guidance for small businesses, not financial or tax advice. Ask your accountant about your own figures.
Sources
- GOV.UK, Expenses if you're self-employed: which business costs can be claimed, useful as a checklist of costs.
- GOV.UK, Running a limited company: company costs, accounts and responsibilities.
- Office for National Statistics, Inflation and price indices: benchmark for how general prices and costs have moved.