How Much to Pay Yourself as a Small-Business Owner
By Nikolina Cveticanin
June 19, 2023
As a business owner, you are likely responsible for overseeing all aspects of your company’s operations. This includes setting your own salary. This decision can be difficult to make, especially if you’re not sure what’s standard or how to determine what’s appropriate for your situation.
In this article, we’ll discuss some factors you should consider when deciding how much to pay yourself as a small business owner.
What To Consider When Setting Your Salary
Setting your own salary can be daunting, especially if you’re a freelancer or small-business owner. After all, you need to make enough money to cover your expenses and earn a profit, but you don’t want to price yourself out of the market. So, what factors should you consider when paying yourself from your business?
Business Structure
One of the first things you should consider is your company’s business structure. Are you a sole proprietor? Do you have a business partner? Are you an S corp? Your company’s business structure will affect how much money you take home and how much in taxes you need to pay.
For example, if you’re a sole proprietor, you’ll likely take home less money than if you’re running a corporation because you’ll be paying taxes on both your business income and personal income.
On the other hand, if you’re running a corporation, you’ll only be taxed for your corporate income. This means that more of your business profits will stay within the company, which can be reinvested or distributed to shareholders.
Business Expenses
Another factor to consider when paying yourself as a small business owner is your business expenses. How much does it cost to run your small business? You should consider expenses like rent, utilities, payroll, and marketing. You’ll need to make enough money to cover these costs, plus your personal living expenses.
One common mistake small business owners make is not accounting for all of their business-related expenses. Make sure you have a clear understanding of all the costs associated with running your business before you start setting your salary.
Personal Living Expenses
In addition to business-related expenses, you also need to account for your personal expenses, such as housing, food, transportation, and health care. Again, one common mistake people make is not accounting for all their personal expenses when calculating the business owner’s salary.
Industry Standards
Another factor to consider is industry standards. What do other businesses in your industry pay their employees? This will help you determine a reasonable salary for yourself as the business owner. Of course, you don’t want to undervalue your services.
Ultimately, setting your salary comes down to determining what you need to earn to cover your costs and make a profit and then finding the right balance between pricing yourself too high and too low. By taking the time to consider all the relevant factors, you can ensure that you set a fair and competitive price for your services.
How to Calculate Your Owner’s Pay
You should consider a few balance sheet items when calculating your salary as a small-business owner. These include your monthly net income, all business-related taxes and fees, and business expenses.
According to some small business revenue statistics, 86.3% of small business owners earn less than $100,000 a year. However, this does not mean you must stay within this bracket. Below are some steps you can take to get a clear picture of a small business owner’s salary and how to calculate it yourself.
Calculate Your Monthly Net Income
Your monthly net income is the total revenue your business brings in minus any taxes or fees. This number can fluctuate from month to month, so it’s important to take an average over a period of time to get an accurate number.
Next, you’ll need to subtract all business-related taxes and fees. This includes income taxes, self-employment tax, and any other business-related expenses. Once you have your monthly net income minus taxes and fees, you’ll be left with your profit.
Calculate Your Tax Savings
The next step in calculating owner pay is determining your tax savings. This includes any deductions you can take for business expenses, home office expenses, and health insurance premiums.
You can consult with a tax professional or use a tax calculator to get an accurate number. Once you have your tax savings figured out, you can add this amount to your monthly net income to get your total monthly compensation.
Calculate Your Business Expenses
The final thing you’ll need to consider when setting your salary is your business expenses, including office rent, utilities, supplies, and employee salaries. Once you know how much it costs to run your business each month, it will be easier to calculate how much to pay yourself as a small business owner.
One mistake many small business owners make is not accounting for their salary when calculating their business expenses. This can lead to severe financial problems down the road, so be sure to include yourself in the equation.
By following these steps, you should be able to come up with fair and reasonable compensation for yourself as a small business owner. Remember to avoid common mistakes, and you’ll be on your way to success.
Ways To Pay Yourself
As a business owner, you have two options: Either pay yourself a salary or take distributions from your small business. Here are the pros and cons of an owner’s draw vs. a salary.
Paying Yourself a Regular Salary
To pay yourself a regular wage, just like you would an employee, you’ll need to set up payroll for your business and withhold taxes from your paycheck. One advantage of this method is that it can help you separate your personal and business expenses and make it easier to track your business expenses come tax time.
The downside of drawing a salary is that it’s subject to payroll taxes, which can eat into your earnings. Additionally, if you have a slow month or two, you may find yourself struggling to cover your personal expenses if you’re relying solely on your business income.
An Owner’s Draw
If you are self-employed and paying yourself a salary, an owner’s draw is another method you can use. This method is often used by small business owners with irregular or variable income. With an owner’s draw, you simply draw money out of your business bank account as needed to cover your personal expenses.
One advantage of this method is that you don’t have to worry about payroll taxes. Additionally, it can give you more flexibility regarding how much money you take out of your business each month. However, one downside is that it can be challenging to track your small business expenses come tax time.
So, which method is right for you? How to pay yourself as a sole proprietor? Ultimately, it depends on your circumstances and the needs of your business. If you have a stable and predictable income, having a regular salary may be the best option. However, if your income is variable or unpredictable, an owner’s draw may be a better option.
Final Thoughts
Paying yourself as a business owner can be a tricky task. And there’s no universal rule on how much business owners should pay themselves. However, by following some simple guidelines, you can ensure that you are fairly compensated for your work without putting your business finances at risk.
What’s most important is to find a method that works for you and your business. And, of course, to avoid any common pitfalls.