As a committed business owner working hard to expand your products and services, improve infrastructure and prioritize vendors and employees, you could be forgetting to invest in one of your most important assets: yourself.
Business owners, especially those just getting started, often hesitate to pay themselves out of their business payrolls. But just because you own the business doesn’t mean you should be its lowest priority. The popular notion of self-care is important for your business’s health, too. Here’s some helpful insight about how and why you should put yourself on the payroll, taking care of yourself so that you can continue caring for your customers.
Two ways to pay yourself: salary vs. owner’s draw
Generally, there are two ways to pay yourself as a business owner: salary or owner’s draw. Each comes with its own specific set of requirements, each is better suited to specific types of business-ownership models (C-corporation, S-corporation, etc.), and each comes with its unique set of pros and cons.
As you’ve probably guessed, a salary means you’re on your own business payroll as a salaried employee, receiving a regular, recurring payment in an amount determined by you as the owner, just as if you were an employee elsewhere. And, like any salary, it’s taxed as income by state and federal governments.
Best for: S-corporation, C-corporation or a limited liability company (LLC) taxed as a corporation
Note: Salaries are a legal requirement for these specific business structures. To learn more about which type of business structure is best for you, check out "Understanding Business Entities."
- You can budget a stable, recurring expense into your business costs.
- It’s easier to track income and expenses.
- Taxes are deducted upfront.
- You have the option to be paid based on a percentage of profits, which incentivizes performance.
- A slow month might lower your salary, while payroll must continue meeting the IRS definition of "reasonable compensation": "the value that would ordinarily be paid for like services by like enterprises under like circumstances." For more information about determining reasonable compensation, consult "Paying Yourself" on the IRS website.
- Deciding on a payroll amount for yourself can be challenging (see below).
- There’s a risk of salary instability if profits aren’t as projected.
- Your salary is taxed as income.
An owner’s draw is how most small business owners join their own company payrolls, drawing money (in cash or in kind) from the profits of their business as needed, also sometimes referred to as owner’s equity. The IRS views owners of sole proprietorships, LLCs and partnerships as self-employed. You won’t pay taxes on every draw, but it’s wise to set aside money to pay your estimated quarterly tax bill. For insight about your quarterly tax bill, visit Chase’s "Guide to Managing and Paying Quarterly Taxes."
Best for: Sole proprietorships and partnerships
- Your salary is flexible and can fluctuate depending on how your business is performing.
- You can withdraw once or multiple times using the same or different amounts.
- You need to budget for a quarterly tax bill.
- An owner’s draw reduces a business’s equity, limiting funds available for future business spending.
How much should you pay yourself?
No matter which route you choose, salary or owner’s draw, determining how much to pay yourself once you’re on your own payroll is difficult for most business owners. Every business is unique, making reliable statistics difficult to come by. To meet living expenses, most business owners receive a modest weekly or monthly salary — and sometimes none at all in the first few years of operation. But taking the following factors into account might help you determine the ideal amount for you.
Striking a balance
There is no one-size-fits-all answer to how much to pay yourself. When considering a fair amount, it’s helpful to think of your business payroll salary as striking a balance between your business needs and your household requirements. Specifically:
- Weekly, monthly, annual expenses — Keep a list of what you owe and when it’s due to avoid drawing too much salary at the wrong time.
- Rainy day funds — Keep enough aside to cover at least 30 days’ worth of expenses for unexpected business disruptions.
- Reinvestment — Set aside money for developments and improvements (tools, marketing campaigns, vendors).
- Your "true wage" — List the tasks you take on to determine how much you’d pay if you outsourced them.
- Growth — Remember that you can change your owner compensation as you re-evaluate your business’s performance.
- Reasonable compensation — Be aware that taking a lower-than-average salary from your company each year is going to raise red flags with the IRS.
- Taxes — Regardless of the payroll path you choose, you’ll still have to pay Social Security, Medicare and income taxes.
- Day-to-day living expenses (food, mortgage/rent, utilities, transportation, health care)
- Negotiable/unexpected costs (housing or auto repairs, medical emergencies)
- Retirement (personal IRAs or investments)
This should give you a starting point for deciding how much to pay yourself, but your answer obviously isn’t final. By grasping what your total expenditures are, you can ensure you’re taking home enough.
Looking at your balance sheets
Another way to strike a balance: Look at your balance sheets, which allow you to better estimate your weekly or monthly expenses so that you can index your salary to them. Knowing how balance sheets work helps you see ebbs and flows of your business income so that you can more easily join your own business payroll. For Chase’s tips on using and preparing a balance sheet, check out "The Purpose of a Balance Sheet."
Avoiding business payroll mistakes
Many businesses keep personal and business accounts separate. Routing business income into a personal checking account, transferring your pay or owner’s draw from your business account to a personal account or paying for personal expenses with a business credit card can lead to accounting complications, potentially hurting your credit as well as your chances of getting a business loan. For more about opening a business checking account to help keep personal and business finances separate, check out "How to Open a Business Checking Account."
When using the owner’s draw method, you may want to reserve a portion of every draw for taxes. With this approach, taxes aren’t deducted upfront. Instead, you pay an estimated personal income tax amount every quarter. Not paying quarterly results in additional penalties, which means a much larger annual tax burden.
For informational/educational purposes only: The views expressed in this article may differ from those of other employees and departments of JPMorgan Chase & Co. Views and strategies described may not be appropriate for everyone and are not intended as specific advice/recommendation for any individual. Information has been obtained from sources believed to be reliable, but JPMorgan Chase & Co. or its affiliates and/or subsidiaries do not warrant its completeness or accuracy. You should carefully consider your needs and objectives before making any decisions and consult the appropriate professional(s). Outlooks and past performance are not guarantees of future results.
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