You may be wondering… how do you even begin to figure out what to pay yourself?!
On the surface, this sounds like a fun conversation. But, it can be pretty tricky for you or anyone who owns a business to comfortably decide what to write on their own paycheck.
So, I’m here to help you out!
Let’s go over what you need to consider:
#1) Side Hustle or All-in?
If you’re all-in on your business, you need to have some money saved up to begin with. In contrast, with a side hustle (that you’re eventually planning on replacing your current salary with), you can get away with not paying yourself for a little bit.
However, if your business is a side hustle, make sure you have a legitimate plan so you don’t get burnout before getting to the profit stage – you want to make it there!
#2) Legal Structure for Your Business (Sole proprietorship, LLC, S-Corp Partnership)
If you have a sole proprietorship, partnership, or LLC you can simply write yourself a check (called a draw) to pay yourself.
If you have an S-Corp you actually have to go through the process of running payroll through a processor. (If this is you & you’re shopping for a payroll processor, I love Gusto because it’s the easiest and most economical option – more here.)
I am oversimplifying this a little for sake of not being able to write to every reader’s particular situation (and not wanting this post to be a zillion pages long!). But, here’s the thing: draws may be easier, but you need to be SUPER aware of saving for taxes (when you’re running payroll, your taxes are withheld and paid on your personal behalf by your business) and draws or payroll are determined by your legal entity.
#3) Your Personal Habits with Having Cash in Your Pocket
There are some questions you need to answer honestly for yourself:
- How do I personally do with cash in my pocket?
- Can I hold onto big sums over several months? And,
- Would I work better with receiving regular smaller amounts in my personal bank account, or one to a few larger lumps?
There’s no right or wrong with your answers, it’s all up to what is going to work best for you!
The answers to these questions will tell you what you need to feel secure. Over the years of working with small business owners, I’ve found that people feel better when they are following a plan that aligns with their personal psychological makeup.
Personally? At first I paid myself at the end of the quarter. But, I realized that having to wait for ANY compensation for my hard work was making me feel negatively about my business (even if it was doing really well). So, I decided I would pay myself a “guaranteed” small amount every month, then a bonus at the end of the year if profits were good. And honestly, that “guaranteed” amount also has lit a fire around my you-know-what at times to keep it going. 🙂
Now, onto the mechanics of how to figure out what to pay yourself.
There’s a few good options, just find out what works best for you:
#1) Pay yourself a percentage of income.
This usually works best with service based businesses that have a few (and not hugely fluctuating) overhead expenses. For example, a fitness instructor who trains others in a facility she doesn’t own. So, 40-60% of income would go to the business owner.
The trick is that you just have to make sure you’re not paying yourself too high of a percentage so that you have enough money in the bank to pay taxes at the end of the year.
#2) Pay yourself a set amount per month that you could get by on.
(Then a sweet little bonus at year-end). This assumes you have enough of a client flow and customers, OR that you have capital saved up prior to your business really taking off.
The trick is to reevaluate before the end of your tax year so that the balance is correct (one way that tax pros can help!), that you haven’t paid yourself too little, and that you have enough for taxes. Also, make sure you increase this amount as your profits increase!
#3) Pay yourself a set amount per month from the business based on business expenses.
This also works in service-based industries. Run the P&L to see how much your recurring business expenses are (include tax deductions) and determine an amount you can safely and comfortable take out every month.
For example: you can take on a regular amount of clients that bring in $6k/month, and your normal business expenses total about $2k/month. So, you’d most likely feel comfortable paying yourself a base of $2.5k a month, with $1.5k left to reinvest in the business and save for taxes.
At the end of the day…
There isn’t a magic answer to help you figure out what to pay yourself because there’s both an emotional and logistical side. My suggestion? Get clarity on your needs and feelings around money, then move on to the logistical.
Over to you:
Do you have any other tips for how to figure out what to pay yourself? Do you have an experience you’d like to share?