Many business owners struggle with the issue of “paying themselves” every day. But let’s state the obvious here: even business owners have personal bills to pay.
Business owners think about money constantly. How much is coming in, how much needs to be paid out, how much needs to be set aside for tax and GST, how much can be put towards marketing, how much can be socked away for emergencies … this list goes on. Does this sound familiar? If you run your own business, I’m sure it does.
When money gets tight or a single financial priority rises to the surface, many business owners, do one thing first: cut their own salaries. You always pay your employees, the bills, and the rent, but when cash is scarce you put off paying yourself a salary. Often for longer than you should.
To keep a business healthy in the long run, you must pay yourself a salary on a regular basis. Even if you’re still in the start-up phase and living off personal savings, paying yourself from the beginning has advantages you can’t afford to miss.
Skipping our own salaries as a financial fix isn’t selfless or smart, it’s unsustainable and should be considered a last-ditch effort. Here are my pros and cons to paying yourself (starting with the cons).
When your income varies from month to month and you’re the one responsible for this, you spend lots of sleepless nights fretting over personal finances.
While some worry is completely normal (and to be expected), too much will always distract you from doing what you do best – using your energy to work on your business success. If you funnel all of your profits back into the business, you will stretch your own personal finances.
Building your business with the illusion that success is being able to meet operating expenses is unwise and unsustainable. Much of the money in your business account will always be spoken for by the everyday expenses. In fact, the money in the business account actually belongs to the business, it is not yours personally. Having sufficient cash flow is vital for any business, and it’s far easier to manage cash flow when you have predictable expenses you can plan around, including your salary.
Everything within the business will most probably keep functioning when you are paying everyone else except yourself. It doesn’t mean that your business is actually meeting financial goals and ultimately the success you seek. Your own salary needs to be a regular expense in the business budget. Sometimes skipping your salary is unavoidable but constantly can distort your understanding of your business financials. The point to keep in mind is that ‘cash flow is king’.
Think back to the days before you started your business when you were working for a boss. Chances are you were rewarded for your hard work with a regular salary. It may not have always been the same amount, but it came through like clockwork. And for the next week, month, or however often you got paid, you’d do your best to manage your expenses and make your money last. You couldn’t ask your employer for more money when you ran out.
Having sufficient cash flow is vital for any business. And it’s far easier to manage cash flow when you have predictable expenses you can plan around—including your salary. Refer to point 2 above.
When wage and salary earners are paid, the employer must withhold and set aside a portion of their pay as tax. When you withdraw money from your business, it’s not ‘free money’ (i.e. tax-free). These amounts, depending on your business structure, need to be properly accounted for.
How you take money from your business could be building up a potential debt that will need to be paid at some point. Furthermore, this debt could lead to severe cash flow problems down the track, especially when it comes time to sell the business.
When it comes to assessing a person’s ability to service a potential loan, banks much prefer consistently earning wage and salary earners to sporadically earning self-employed business owners. The bank wants to know you can comfortably service the loan each month, and by paying yourself a regular salary you’ll have the payslips and bank statements to show a steady cash flow history. So, the sooner you set this up in your business, the better.
Do I really need to elaborate on this one for you? Why wait any longer? Start paying yourself today!
As you can see, there are many good reasons to pay yourself a regular salary instead of dipping into the business account on an adhoc basis. The next question is, how much should you pay yourself?
Obviously, you need to pay yourself enough money to cover your basic living and lifestyle requirements. The last thing you want is to be stressed about your personal finances, especially when you’re trying to make business decisions.
By paying yourself what you are worth, you will be setting a bar at market rates for the work and hours you complete. You will feel a sense of self-worth and satisfaction of being remunerated at a level you are truly worth. It also allows for future financial rewards when the business achieves beyond the budget.
It’s not always a good idea to pay yourself too much in salary—even if the business can easily afford the cash flow. Similarly, if you are still in the start-up phase, reduce your overhead costs as much as possible and pay yourself a small but regular amount. Depending on your business structure, there can be more tax-effective ways to receive income from your business, such as dividends.
Every business and person’s situation is different in this regard, so it’s important to get one-on-one advice in this area. Don’t view this article as personal advice to you—it’s not. I’m simply opening your eyes to the many benefits of paying yourself a consistent salary as a business owner.
Many business owners pay themselves in one of two ways:
Have a guess at which is the most often used strategy? Yes, you guessed correctly – Number 2. The main reason for this is the fear of taking too much and leaving the business with potential cash flow pressures.
And my preference? Again, you are correct, Number 1. If you want a little bonus at the end of the year, or perhaps six months into the financial year, you can pay yourself an employee bonus, a directors’ fee, or even a fully franked dividend. However, this is definitely something you should speak to your accountant or adviser about first and should be part of your planning each and every financial year.
The amount you pay yourself has a lot of variables. As a business owner, you have the freedom to determine your own salary. As your profits grow, evaluate your salary the same way you would an employee’s. You have the power to pay yourself more when profits are high and less during economic downturns or when expenses arise.
There is a popular theme across social media channels of late. You may have seen it. “Rest should not be a Reward”. The same should be true for business owners paying themselves a regular salary. It shouldn’t be seen as a reward for a successful business. It should be a requirement to be fairly remunerated for the work (hours and effort) that are injected into the business’s success.
It’s not selfish to pay yourself a salary. It’s not a luxury. You are in business to make money, and a portion of that money should be yours to keep.