“Pay myself first? I can barely pay myself at all, let alone do it first!” If that sounds like you, you’re not alone. Many business owners struggle with the “pay themselves” issue every day. But let’s state the obvious here: even business owners have to eat.
You likely started your business so you could pursue a venture that you love while (eventually) making money doing it. It takes some effort, and some creative accounting, but the rewards of paying yourself first are well worth it. Let’s explore why this is so critical.
How Can You Pay Yourself First?
Even if you’re still in the startup phase and living off personal savings, paying yourself from the beginning has decided advantages you can’t afford to miss. Paying yourself can have tax benefits, as well. Check with your accountant to see what benefits to which you may be entitled.
Here’s why you need to pay yourself a weekly, biweekly, or monthly salary:
- Paying yourself is an added work incentive. It feels great to get money in return for hard work, even if it’s a small amount.
- Paying yourself increases savings for you or the business.
- Investors view business owners who pay themselves as highly committed – so do banks and finance companies.
How Much Should You Pay Yourself?
Before jumping up and down clapping your hands about getting a paycheck, take a long hard look at the numbers. Revenue and profits are not the same things. You have utilities, employee salaries, tax obligations, and other bills to pay that cut into revenue.
Don’t just look at the current numbers, either. There may be future expenditures, such as estimated taxes that have to be paid. Look at accounts receivable to see how much money will be coming in. You also need to take into account personal expenses. Your rent, mortgage, food, credit cards, car loans, and living requirements have to be totaled and assessed.
There are two choices when it comes to deciding how much to pay yourself. The first is paying yourself enough to get by. If you’re still in startup phase and not making much profit, reduce your overhead as much as possible. Pay yourself a small, but steady amount.
As your business grows and your profits increase, you can look at paying yourself what you think you’re worth. What do professionals make at similar sized local companies in your region? Don’t compare your potential pay with that of the salaries of execs in New York City if you live in Duluth, Minnesota. Trade associations, local small business organizations and other industry entrepreneurs often offer comparable salary information.
Keep in mind that the Internal Revenue Service (IRS) requires you pay yourself “reasonable compensation.” Pay yourself too much for someone in your field and location and up goes the IRS red flag.
If you haven’t already, invest in accounting software to keep track of all of your business transactions, including your pay (Ask your accountant which software program best fits your business structure). Pay yourself consistently – the same day and time every month, and make sure these entries are made in the accounting software.
The amount you pay yourself has a lot of variables. As a business owner, you have the freedom to determine your own salary. As your profits grow, evaluate your salary the same way you would an employee’s. You have the power to pay yourself more when profits are high and less during economic downturns or when expenses rise.
What About Perks and Benefits?
If you offer your employees a benefits package, you can, in most cases, extend the same benefits to yourself. Benefits include things like retirement plans. Here is a free guide from Fisher Investments called the “15-minute retirement plan” that can help.
You can expense cellphone for business use, health care packages, and much more. If you give bonuses, either for a job well done or for the holidays, you may be able to give yourself one, too. Again, speak with your accountant to find out what is permissible. IRS scrutiny is something you don’t need.
Watch Out for These “Pay Yourself Pitfalls”
When your business starts making money, it’s tempting to take a little here and there for personal use. Don’t do it. If your business is a registered corporation, it may be illegal for you to use corporate money for personal expenses. Even if you’re a sole proprietor, where the IRS doesn’t differentiate your business income from personal income, it’s a bad idea. Keep business and personal finances separate to reduce your chances of making a costly mistake. Of course, what you do with your paycheck is entirely up to you.
Takeaways You Can Use
- Your accountant is your best friend when it comes to figuring out how much to pay yourself.
- Paying yourself a regular salary is a sign of your commitment as a business owner.
Remember, you started the company at least in part to help yourself. Paying yourself first is one of the best ways you can accomplish that.
Gabby Revel is a freelance writer who specializes in lifestyle topics, as well as science and technology, investing, and personal finance. She also has a passion for adorable dogs of all kinds. She currently lives in the San Francisco Bay Area.