How do I pay myself as a small business owner?
As a business owner, keeping things ticking over should always be your number one priority.
Sure, we may all want to be the next Jeff Bezos or Elon Musk, but the unfortunate truth is that, as a business owner, your own pay packet is last on the list of priorities.
Only once things are running like clockwork - your rent is up to date and staff are being paid on time - can you even begin to think about paying yourself.
But how much should that pay packet be?
Is it right to pay yourself just enough to get by, so you can keep as much as possible in the coffers for a rainy day? Or do you deserve an executive wage as a reward for getting things off the ground?
The sensible approach would be to keep your wage to a bare minimum until your business is at least turning a profit. But, even once you reach this stage, what’s a fair wage for your time and efforts?
How much should I pay myself?
As all businesses are unique and business owners’ circumstances differ, this is a hard question to answer with definitive figures, but we’ll try to at least give you a rough idea.
On the one hand, the amount you pay yourself should come down to your business and its circumstances - taking into account factors such as the industry you operate in, your business model, and your turnover.
Ultimately, you should aim to strike a balance between investment in your business, and paying yourself a wage. Entrepreneurs will often take a basic wage to simply cover living expenses in the early days, as this is a way to ensure the business has maximum investment while reducing the amount of start-up capital needed.
To do this, you need to work out your basic worth, and this can be done by following the steps below.
How to work out your basic worth
- Take your basic worth (the minimum you want to make when going into business).
- Divide it by 12.
- Multiply the rate of inflation by 4.
- This gives you the % to add to your monthly income.
- Basic worth = £25,000
- Monthly wage = £2166.66
- Inflation rate = 4% x 4 = 16%
- New monthly wage = £2166.66 + 16% = £2512.66
- New yearly wage = £2512.66 x 12 = £30,151.92
Unfortunately, it’s not enough to simply break even, and your priority should be to make sure that your business is financially stable.
When can I increase my salary?
Again, every business is different, so there is no one size fits all answer to this question. The obvious answer would probably be that you can increase your salary when your business breaks even, but even this comes with some caveats.
It’s not enough to simply break even, and your priority should be to make sure that your business is financially stable. This is because every inflated overhead will impact the overall cash flow of your business. This means that paying yourself more when it's not financially robust enough can harm growth.
To avoid this happening to your business, it can help to tie your salary in with your business’s growth.
How to tie your salary into your business’s growth
If your business grows by 5% over a quarter, then reward yourself with a quarterly wage bonus of the same amount, as below:
- Take your monthly wage.
- Multiply it by 3 (number of months in a quarter).
- Work out your bonus % based on the growth % of your business against your quarterly wage.
- Monthly wage = £2512.66
- Quarterly wage = £2512.66 x 3 = £7537.98
- Bonus for the quarter = 5% of £7537.98 = £376.89
*Please note: There are several ways that you can arrive at a figure when working out how much you should pay yourself. The above are simply suggested methods.
You should then reassess your salary annually, based upon the growth and performance of your business. But, above all, remember to be realistic with your wage, and make sure it’s financially sustainable for your business.
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How do I pay myself?
Before we can answer this question, we need to make the distinction between being a sole trader and a limited company.
What if I’m a sole trader?
If you’re a sole trader, then all profit earned is yours. Using this money is classed as “business drawings”, and is different from taking a wage. On the downside, you are personally liable (you have unlimited liability) for your tax bills, so you need to make sure that you properly record any drawings you take from the business.
If you don’t pay your tax, HMRC will come for your personal assets. Remember, the money you withdraw from your business is not taxable – but your profit, or income, is.
If you are a sole trader, it could be worth setting up a separate tax savings bank account and aim to deposit up to 25% of all net income. Then, at the end of the tax year, you'll pay a self-assessment bill. You should speak with your accountant on whether you need to have another bank account for your VAT.
What if I run a limited company?
If you are a limited company paying yourself, things work quite differently because you are an employee of the company, even if you are the sole employee.
In this instance, it might help to think of your business and yourself as two separate entities.
If you pay yourself under £486 per month you can be exempt from paying tax, yet if you earn more, then you need to register yourself as an employer at the government website.
From there you'll receive two letters from HMRC which will include your PAYE and Accounts Office references and your activation code for PAYE online. After this, you will need to set up a payroll. Visit GOV.UK for more information on setting up and running a payroll.
As you can see there’s a lot more to consider when deciding how much to pay yourself as a business owner, other than the figure that you will be bringing home every month. You should also take into account the tax implications that your monthly wage has and, most importantly, whether it’s financially feasible for your business to support the wage you want.
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