That first check you get when you start a brand new business is so exciting. You put your blood, sweat, and tears into a dream and made it come true. I’ve been there and whoever figures out how to bottle that feeling will be a billionaire.
But after the money starts rolling in, a lot of small business owners are not quite sure how to pay themselves. You’re paying your business expenses and seeing the cash come in, what about your cut? And what about the taxes on your cut?
There are a lot of factors you should be considering before dumping that full check in your personal bank account. In this article, I’ll make figuring out how to pay yourself as a business owner quick and easy.
Let’s get started!
Start with your business entity type.
This is the best place to start when figuring out how to pay yourself as a business owner. Your business entity is how your company is structured legally. It’s also how you’ll pick which kind of payment method to use for your small business.
There are a couple of main structure types:
- Sole Proprietorship
- Limited Liability Company (LLC)
- S Corporation
- C Corporation
Figured out which one your business is? Awesome – next!
Then pick the best method for your entity type.
There are two primary ways small business owners pay themselves: owner’s draw and salary. Figuring out how to pay yourself as a business owner is really that easy – only two options!
Which one you should pick depends on your business entity.
Best for sole proprietorships, partnerships, and LLCs
So what is an owner’s draw?
The simple answer: the owner’s draw is a way you can withdraw money from your business’s profits to put in your own pocket.
The bookkeeping answer: the owner’s draw is an equity account distribution that reduces your share of the company. This draw makes an impact on your balance sheet.
Because the IRS views sole proprietors, partnerships, and LLCs as technically self-employed, these kinds of business owners aren’t paid wages so should select to be paid through owner’s draws.
The cool thing about this kind of payment option is you don’t have to worry about upfront taxes. You get to pocket the full amount of the draw when you take it! A perk of your entity type for sure.
But BIG caveat: you still have to pay taxes on the draws! They are taxed at year end.
Best for S corps & C corps
Figuring out how to pay yourself as a business owner of a corporation can be a little trickier, but salaries are pretty straightforward.
A salary is a regular payroll expense you factor into your budget. Each salary payment is taxed at the time it’s issued.
S corps & C corps are legally required to use the salary option for business owners who work regularly in the business – AKA those who can be considered an employee. Note: LLCs who elect to be taxed as an S corp are also included in this requirement.
Pick how much to pay yourself.
Onto the good part: paying yourself.
Analyze your profit.
Folks electing to use the owner’s draw method may think they can technically pay themselves up to the amount of profits they’ve made. But that is definitely not recommended as your business needs cash to function!
A good rule of thumb is to take a look at your income statement – also called a profit & loss statement or P&L – at the end of the month to see how much net profit you are making.
Be sure to look at your PROFIT not your REVENUE.
You want to make sure all of your small business expenses, like utilities, rent, taxes, and supplies, are covered before you start figuring out how to pay yourself as a business owner.
Use the same method as above to determine how much of a salary to take each month.
S corps beware
Many small businesses opt for the S corp designation because of some sweet tax savings. But when considering your salary amount, you must be wary of the IRS’s “reasonable compensation” rule. S corp shareholder-owners must be paid a salary that is comparable to the amount paid to someone else doing the same job at another company in your industry. A definite consideration for selecting this type of entity.
Here is the IRS’s fun reading on the subject for more info.
Pick your personal payroll schedule.
Salaries need to be on a regular basis, so I’d suggest paying yourself every two weeks on a routine schedule.
Owner draws have less rigidity when it comes to timing, but I highly recommend sticking to the same schedule as a salary. Not only does it make budgeting easier, you should be paying yourself regularly for your hard work. Starting your own biz can be for a lot of reasons, but one of them is probably to get paid!
Get that money!
Congrats – you’ve earned some cold hard cash for your hard work! Write yourself a check or set up that direct deposit.
Figuring out how to pay yourself as a business owner takes a little bit of effort, but seeing the fruit of your labor makes it all worth it.