As a business owner, you pour your energy, time, and resources into ensuring your business thrives. But amidst all the demands of running your business, there’s one crucial aspect many entrepreneurs overlook: paying themselves.
You might be thinking, “I’ll pay myself later. Right now, the business needs it more.” However, if you consistently defer paying yourself, you’re not just neglecting your personal finances, you're also undermining the long-term health of your business.
So, what does “pay yourself ” mean, and why is it so vital?
Paying yourself first” is a strategy where, before you handle any other business expenses, you set aside a fixed salary for yourself. This isn't a luxury, nor is it an afterthought. It's a financial discipline that ensures you’re building a sustainable future both personally and professionally.
When you do this, you treat yourself like an employee of your own business. You commit to appreciating yourself regularly, just as you would pay your team or suppliers.
Different Ways to Pay Yourself
One of the first questions you may ask yourself is: “How should I pay myself?” The answer isn’t always straightforward because there are different ways to structure your salary, and each comes with its own set of benefits and challenges.
Understanding these options will help you choose a method that aligns with both your business and personal financial goals.
1. Drawing a Salary:
The most straightforward method is to pay yourself a fixed salary. You determine an amount that is reasonable for your business to sustain and pay yourself that amount regularly, just like any employee would be paid.
Pros
- Having a set salary means you know exactly how much you will earn each month, which helps with personal budgeting.
- This approach makes your business feel more structured and professional, especially if you plan to eventually hire employees.
2. Owner’s Draw
An owner’s draw is a more flexible approach where you withdraw money from the business profits as needed. This method is often used by sole proprietors or owners of small businesses who are not paying themselves a fixed salary. Instead, you take a portion of the profits when the business is doing well.
Pros
- You can adjust the amount you draw based on how the business performs. If your business is thriving, you can take out more money; if it's struggling, you can pull back.
- Since the draw is based on profits, you’re less likely to overextend yourself during lean months.
3. Profit Sharing
If you want a more dynamic method, profit sharing can be a great way to pay yourself. In this method, you tie your personal compensation to the profitability of the business. After you pay all your business expenses, you pay yourself a portion of the profits.
2.Strange Payment Instructions
Most businesses have consistent, registered payment channels. Criminals redirect funds to quickly launder money through hard-to-trace systems.
Pros
- The more successful the business is, the more you get paid. This method motivates you to drive the business forward.
- Profit-sharing aligns your financial success with the success of the business, ensuring you’re both working toward the same goal.
How Much Should You Pay Yourself?
Determining how much you should pay yourself as a small business owner is not a one-size-fits-all decision. It requires a careful balance between the financial health of your business and your personal financial needs.
Too much, and you risk overextending your business’s resources; too little, and you may struggle to meet your personal expenses and feel undervalued for your hard work.
1. Understanding Your Business Cash Flow
The first factor to consider when determining your salary is your business’s cash flow. Your business can be profitable but still face cash flow issues, so it’s important to understand the timing of your income and expenses before deciding how much to pay yourself. When your business has consistent and predictable cash flow, it’s easier to pay yourself a set salary every month. But during seasonal fluctuations or lean months, you may need to adjust your compensation.
2. Setting a Salary That’s Sustainable
Don’t set a salary that leaves you with nothing after paying for your business costs, such as rent, utilities, inventory, and employee salaries. A good rule of thumb is to only pay yourself what your business can afford after these essential costs are covered. If you’re just starting, you may need to set a modest salary. Over time, as your business grows and becomes more profitable, you can increase your compensation.
3. Consider Your Personal Financial Needs
While the health of your business is critical, your personal financial situation is just as important. Take the time to calculate your living expenses: rent, utilities, transportation, groceries, insurance, and any other monthly obligations. Use this information to help you determine a reasonable salary that allows you to meet your personal needs while still leaving room for your business to grow.
4. The Role of Profit and Taxes in Your Salary
Another important consideration is your business’s profit. Your salary should reflect what’s left after your business pays for all operating expenses, taxes, and other necessary costs. Remember, paying yourself first is a way to reward yourself for the work you’ve put into building your business, but it shouldn’t come at the cost of neglecting taxes or running your business efficiently.
5. Building a Pay Yourself First Budget
To ensure you’re consistently paying yourself without jeopardizing your business’s financial health, it’s crucial to build a pay yourself first budget. This budget should include:
- Fixed business expenses: Rent, utilities, supplies, employee wages.
- Variable business expenses: Marketing, sales costs, unexpected repairs.
- Personal living expenses: Rent, groceries, insurance, savings.
- Savings for your business: Always allocate a portion of your revenue to reinvest in the business, especially in the early years.
6. The 30% Rule:
One practical rule to consider is the 30% rule, which suggests that small business owners pay themselves 30% of the profits. This rule is a good starting point, especially when your business is growing but hasn’t reached its peak. And of course, this isn’t a hard-and-fast rule; it depends on your business’s financial situation, but it gives you a solid benchmark for how much you should aim to pay yourself first.
Treat Yourself as an Employee, Not Just the Boss
Don't fall into the trap of treating yourself as the “boss” who can pay any amount whenever you want. This mentality can lead to inconsistent income and financial stress. It’s important to treat yourself like any other employee by paying yourself a set salary regularly.
Make it a habit to prioritize your salary just like you would for any employee in your business. Remember, you’re building a sustainable business for the long term, and consistency is key to achieving that.
Conclusion
Every business owner carries two important duties to build the business and to protect personal financial health. Paying yourself first is how you strike that balance.