Answering the question, how much should you pay yourself as a business owner can feel like walking a tightrope. Pay yourself too much, and your business may struggle to thrive. Pay yourself too little, and you risk financial stress and burnout. Striking the right balance is essential—not just for your own well-being, but for the long-term success of your business.
This guide will walk you through the critical factors to consider, the methods to determine your pay, and how to set up a system that ensures you’re compensated fairly while prioritizing your business’s financial health.
Understanding Your Business Finances
Before deciding how much you should pay yourself, it’s important to have a clear understanding of your business finances. Familiarize yourself with these core financial concepts:
- Revenue: Your total income before any expenses are deducted.
- Expenses: Operational costs such as rent, payroll, supplies, and marketing.
- Profit: What’s left after you subtract expenses from revenue. This is what the business earns.
- Cash Flow: The movement of money in and out of your business, showing whether you’re liquid enough to meet your monthly obligations.
If you don’t fully understand your business’s financial picture, you risk overpaying or underpaying yourself. Effective bookkeeping and financial tracking tools are essential for providing the clarity you need.
Factors to Consider When Setting Your Salary
Several factors should guide your decision about how much to pay yourself. Here are four key considerations:
- Business Profitability
Your pay should come primarily from the business’s profits. If your revenue hasn’t consistently exceeded your expenses, taking a large salary could hurt your operations. Assess your profit margins before deciding on owner compensation.
- Personal Financial Needs
While it’s tempting to reinvest every dollar back into the business, personal expenses like rent, groceries, and insurance don’t stop. Calculate your personal budget first and consider that when determining your salary.
- Industry Standards
Research what similarly sized businesses in your industry pay their owners. Tools like PayScale, Glassdoor, or even connecting with fellow entrepreneurs can help you benchmark appropriately.
- Future Investments
Your business may need reserves for upcoming costs like hiring, new equipment, or expansion. Balancing your pay with future financial goals ensures sustainable growth.
Methods for Determining Your Pay
There’s no one-size-fits-all formula for deciding your salary, but here are three popular methods to guide you:
1. The Market Rate Approach
Determine what someone in your role would earn as an employee at another business. For example, if you own a social media agency, research average salaries for social media agency managers in your area. This method ensures you’re compensating yourself fairly based on industry standards.
2. The Percentage of Revenue Approach
Many business owners set their pay as a percentage of their monthly or annual revenue. While the percentages vary by industry, a general guideline is 10–50% of your profits. For example:
- Small service businesses might use 10–20%
- High-growth startups might allocate smaller percentages to prioritize reinvestment
3. The Affordable Salary Approach
Consider how much salary your business can “afford” while maintaining financial health. This method works well for startups still building their profitability.
A financial advisor can help you balance these approaches to suit your unique circumstances and goals.
Legal and Tax Implications
How you pay yourself depends on the structure of your business. Here’s a quick breakdown:
- Sole Proprietors and Partnerships
You’re generally paid through owner’s draws, not a formal salary. However, owners are still responsible for self-employment taxes.
- LLCs
Single-member LLCs typically operate like sole proprietors, while multi-member LLCs, depending on their setup, may follow partnership rules or corporate structures.
- Corporations (C-Corps and S-Corps)
Owners take a salary, which is taxed as regular income. S-Corps also allow distributions that avoid self-employment taxes, provided the salary is “reasonable” per IRS guidelines.
Consult an accountant to ensure you comply with legal requirements and optimize for tax savings.
Setting Up a System for Regular Payments
Consistency is key. Paying yourself regularly makes budgeting easier for both you and your business. Here’s how to set up a simple system:
- Separate Business and Personal Finances
Use a dedicated business bank account to manage income and expenses, avoiding financial confusion.
- Establish a Payment Schedule
Decide whether you’ll pay yourself weekly, biweekly, or monthly. Automated transfers from your business to your personal account reduce hassle.
- Track All Payments
Even if you’re taking owner’s draws, document each payment to maintain accurate records for taxes and financial planning.
Reviewing and Adjusting Your Salary
Your business is constantly evolving, and so should your compensation. Regularly review your business performance and personal needs to determine whether adjustments are necessary. Questions to ask include:
- Has your business profit increased or decreased?
- Have your personal financial obligations changed?
- Are there upcoming expenses or investments requiring extra savings?
Performing regular reviews ensures your pay reflects both personal and business goals.
Seeking Professional Advice
Financial decisions can be overwhelming, but you don’t have to go it alone. Consulting with financial advisors, accountants, or bookkeepers can provide tailored insights to make confident choices about your salary. A professional can also help you avoid tax pitfalls and ensure compliance with financial regulations.
Paying Yourself Fairly Benefits You and Your Business
Setting the right salary for yourself is about more than just the dollar amount. It’s about creating a sustainable balance that prioritizes both your personal well-being and your business’s growth. By understanding your finances, choosing an appropriate pay method, and seeking expert advice, you can compensate yourself fairly while positioning your business for success.
If managing your small business finances feels like a hurdle, considering outsourced bookkeeping may ease the burden. BooXkeeping helps businesses like yours simplify financial management so you can focus on what matters most. Learn more here.
Recommended Resource: U.S. Chamber of Commerce Guide on How to Calculate Business Owners Salary
