Money Mindset: How To Pay Yourself As An Entrepreneur
Many of us entrepreneurs started our businesses to build wealth for ourselves, our families, and future generations. Yet, how much do you pay yourself for all the hard work you put in as a founder?
For many business owners (more than 50%!), the answer is nothing. That’s right. More than half of all small business owners aren’t getting paid anything in their businesses. And it’s leading to stress and anxiety, frustration, and burnout.
Just because the business is yours doesn’t mean you don’t deserve to get paid. In fact, I strongly recommend that you start taking home some of the money your business generates once you start turning a profit!
If you are feeling resistant to this idea right now, don’t worry. In this article, I’ll explain why it’s so important for business owners to get paid from their business, the different options you have to pay yourself, and how to figure out how much money you should be paying yourself.
P.S. If you’re thinking – this article isn’t for me because I pay myself ALL the money my business makes – keep reading too! Taking home 100% of profits isn’t a great idea either, and I’ll explain why.
Expand Your Money Mindset: Pay Yourself as CEO
A lot of the small business owners I work with tell me: I don’t need to pay myself, I’m the owner of the business. Everything the business makes is mine. Why should I pay myself?
Yes, this is true.
As the owner of the business, everything the business makes is technically yours. However, when was the last time you spent money from your business on yourself? As a successful business owner with a profitable business, you get to enjoy the fruits of your labor. That’s where getting paid from your business comes in.
You work hard on (and in!) your business. You spend hours every day serving clients, thinking of new offers, working on administrative tasks, and more. Let’s face it – without you, there would be no business. You should be able to reap the benefits of all your work.
This isn’t to say that you need to start paying yourself the equivalent of what you were making at your corporate job before you started your business. It is completely okay for you to pay yourself just a small amount if your business is in the starting stages – the important thing is getting used to the idea of getting paid as the owner of your business!
Pro Tip: Use a part of your pay from your business to treat yourself, not just pay your bills! Whether it’s a nice dinner out or a new pair of shoes or a staycation at a boutique hotel – running your business should bring you joy and motivate you to keep going. Think of it as your business expressing gratitude for all the hard work you put in!
Paying Yourself is Not All or Nothing
So how much should you pay yourself as a business owner? Often, entrepreneurs have no idea if they can afford to pay themselves or how much to pay themselves from their business. As such, they usually choose one of two options.
The first, which we’ve seen, is not paying themself anything. All the money remains in the business and is reinvested into growing the business – the owner enjoys none of it. This may be necessary in the early stages of the business, but it quickly becomes unsustainable and/or the business starts feeling unmotivated or burned out.
The second category of entrepreneurs is people who put 100% of their profits into their personal accounts. There are a few reasons why this is not advisable from a financial standpoint. When you overpay yourself, you may not be making the best use of business funds.
You may be reporting a lower profit or not setting aside sufficient funds for taxes (there are penalties if you underpay your quarterly taxes!). You could even be slowing down or hindering your business growth if you don’t have enough to reinvest in your business or avoid setting aside funds for a rainy day.
It should be obvious by now that not paying yourself and paying yourself too much can be detrimental to your business and/or yourself. Instead, we should opt for something in the middle. How much to pay yourself from your business depends entirely on you, your business, and other factors unique to your individual circumstances.
However, this does not mean that you should transfer money over from your business account to your personal account with no rhyme or reason! Some entrepreneurs may arbitrarily pick an amount or percentage to determine their owner’s draw or salary but there is no guarantee that this makes financial sense for your business. These strategies usually aren’t based on a plan or future considerations of the business. To figure out how much you should pay yourself, it can be helpful to implement a system like Profit First or use a customized budgeting tool tailored to your needs.
When to Start Paying Yourself
Does your business make a profit? Is the revenue from your business higher than your expenses? If you answered yes to these questions, you are ready to start paying yourself.
In your first few months or even years of business, this amount may be no more than a few hundred dollars and that’s okay. The important thing is that you actively pay yourself now instead of waiting for your business to start producing a higher profit down the road.
How to Start Paying Yourself from Your Business
Now that you’ve decided to pay yourself from your business, you may be wondering how to go about doing it. This does not have to be overly complex or complicated and you can get set up in four simple steps.
Step 1: Decide on Salary or Owner’s Draw
Whether you get paid a salary or an owner’s draw typically depends on the structure of your business. If you run a sole proprietorship or a single-member LLC, your business would pay you an owner’s draw. This means that you can take money out from the business earnings as you see fit. This money comes from your net profits and it doesn’t need to be a regular, set, or fixed amount.
If you have a Corporation (e.g. S Corporation), you can be compensated in the form of a salary (and an owner’s draw if necessary). The IRS requires that your salary is a “reasonable compensation” based on your expertise, training, and duties performed among other things. As with any other wages paid to employees of the company, this salary needs to be paid on a fixed schedule and is considered a business expense. Your salary would be reported on Form W-2. You may also take an owner’s draw from the net profits if necessary.
Step 2: Understand Your Profits
To pay yourself a fair amount that doesn’t overextend your business earnings, it is important to understand your profits.
Start by taking stock of how much revenue your business is generating. Your business might have ups and downs, so this number might not be consistent each month. A more accurate reflection of your monthly revenue could be to take the average for the last 6 or 12 months.
Next, review your operating expenses. How much do you spend on software to run your business, contractors, employees, inventory, education, and coaching each month? If your expenses vary drastically from month to month, take the average of your expenses over the last 6 or 12 months.
The difference between your average monthly revenue and expenses is your profit. Whether you are taking an owner’s draw or paying yourself a monthly salary, it should fall within this amount.
Step 3: Create a Plan
Now that you have a firm grasp of how much profit you generate each month, you can create a plan to distribute your profits! There are three methods you can use here.
Use a Percentage
You can pay yourself a fixed percentage of profit. If your revenue is not consistent, this could result in a take-home amount that varies drastically each month. As such, you will need to budget your personal expenses to adapt to the increase or decrease in your paycheck. This method works well with the Profit First principles.
Example: Every Friday, you total up your profit for the week and transfer 20% of that amount to your personal account. This would be considered an owner’s draw.
Use a Fixed Rate
Using your average monthly profit from Step 2, decide on a set amount that you will pay yourself each period. This can be monthly or bi-weekly. Any excess funds stay in your business account to either reinvest in the business or use for expenses. This method allows you to budget your personal expenses more easily as you can work with a set paycheck amount.
Example: You are consistently profiting over $4,000 per month. Every month, you transfer $3,000 to your personal account. If you have a particularly bad month and only make $2,000 in profit, you would still be able to pay yourself $3,000 because the excess profits from previous months have been retained in the business. This could be considered a salary or an owner’s draw.
Transfer Any Excess
In this method, the aim is to retain a fixed amount within the business each month. You will get paid any additional profit beyond a set threshold. This method is particularly useful if you have monthly fixed expenses or have to reinvest a certain amount each month (e.g. product-based businesses that need to maintain an inventory). Depending on how consistent your sales (and revenue) are, this number could fluctuate each month making it tricky to work out a personal budget.
Example: You need to reinvest $3,000 into your business each month. Last month, your business made $8,000 in profit, so you transferred $5,000 to your personal account. This month, your business made a profit of only $5,000, so you get paid only $2,000. This would be considered an owner’s draw.
Step 4: Monitor the Execution of Your Plan Regularly
Once you put your plan into place, you cannot forget about it! Periodically revisit your plan to evaluate if it is working well. If you’re finding it challenging to budget for your personal expenses or want to prioritize an investment in your business, you can always change the method of paying yourself! On the other hand, if you are consistently not bringing home enough to pay your bills with your paycheck, it may be time to evaluate your pricing or find ways to increase sales.
You may need to consult with a business coach or your accountant to fine-tune the details of your compensation and it may change drastically depending on what stage your business is at. The key is making it a priority to pay yourself.
Every Successful Business has a Well-Paid CEO
As the CEO of your own thriving and successful business, you deserve to get paid! If you are wondering how much to pay yourself in your small business, the Profit First Calculator is a handy tool to get started. Fully customizable for your business, this tool can give you an overview of how much you should pay yourself in your small business. Get your FREE Profit First Calculator here!