By Deborah Sweeney, MyCorporation
Should entrepreneurs put themselves on payroll? For some small-business owners, this is a no-brainer. They've invested their energy and countless hours into their startup and feel confident that they can begin cutting themselves a check. Other entrepreneurs may invest just as much time and effort, but not see the same results in their business, making the decision more difficult. Do you set a salary even though profits have been unpredictable or continue to forgo it?
Compensating yourself may be one of the best things you can do to invest in your business. In fact, 55 percent of small-business owners currently take a salary, according to the 2017 American Express OPEN Small Business Monitor. If you plan on joining them, here are the basic ground rules to help you get started.
1. Start low and grow
Entrepreneurs who currently take salaries pay themselves an average of $75,970 per year. However, on professional and personal levels alike, every entrepreneur’s financial situation is different. How much should you start paying yourself? The best answer lies in starting with reasonable compensation as opposed to overestimating.
How is reasonable compensation defined? The IRS states that this amount should be a figure comparable to the salary of an employee that has your role at another business. You can calculate a more specific version of that number by reviewing your personal expenses (like rent/mortgage and existing personal bills) and looking through your business numbers to see what you'll be able to afford for your salary. It's a good practice to start low, as it means fewer taxes. As you grow, you can give yourself a raise each year.
2. Evaluate cash flow
Before you start cutting your check, take an in-depth look into your financial reports. The money you have coming in your business should be enough to cover all of your existing business expenses along with your own draw. If you're not quite at a break-even point yet, stick to a modest salary range. Remember, this can eventually increase once your profit is steady!
3. Reap tax benefits
Whether you incorporated your business as an S-Corporation or as a sole proprietor, you might be eligible for tax breaks if your payout comes out of your business income. Put yourself on payroll and consult with an accountant to explore which breaks you might be entitled to, such as self-employment tax or other deductions.
4. Explore salary alternatives
Can you pay yourself in ways other than taking a salary? Sure! Another alternative to salaried pay is the owner's draw. This is essentially a withdrawal from your profits that is made payable to you, the owner. Sit down with your profit and loss statements first to thoroughly determine when and if you can make this draw. Additionally, you'll need to report the income and pay taxes on Medicare, Social Security, and income tax at the end of the year since draws do not withhold these taxes.
5. Set a pay schedule
Now that you know how much you'll pay yourself, the different types of payment methods, and your cash flow numbers and tax breaks, it's time to get paid! Much like you would with paying a staffer, stick to a consistent pay schedule with payday scheduled once a week, biweekly, or once a month. You'll find that it's easy for any entrepreneur to take a salary as long as you establish sustainable compensation, spend reasonably, and make sure there are sufficient reserves set aside for the business.
For more tips on being your own boss, check out "13 Ways to Be a Better Boss to Yourself."
About the Author
Deborah Sweeney is the CEO of MyCorporation.com. MyCorporation is a leader in online legal filing services for entrepreneurs and businesses, providing start-up bundles that include corporation and LLC formation, registered agent, DBA, and trademark & copyright filing services. MyCorporation does all the work, making the business formation and maintenance quick and painless, so business owners can focus on what they do best. Follow her on Google+ and on Twitter @deborahsweeney and @mycorporation.