When all startups check the balance sheet at the end of the year they are hit hard by how much effort it takes to maintain steady cash flow. In order to do so, as a business owner, you need to consider, among other things, how much to actually pay yourself from your own business.
How To Determine Your Wage As a Small Business Owner?
Some business owners or sole traders often take the amount of money they need straight from their business’s cash flow which can result in hurting their business plan in the long run. Especially in times of covid, personal expenses should be paid out of a wage that you receive as a business owner, instead of your business profits.
It is a good idea for you as a business owner and your co-founders to receive either dividend payments or monthly owner salaries, depending on your business structure. Your personal finances should be taken care of out of the reasonable salary you give yourself and not from your business profits.
The owner salaries should be labelled as costs in terms of accounting and be noted in your business plan as well.
Paying your own salary might be tricky at first. A good idea is to ensure that the net profit of your organisation is enough to sustain itself even after you take out your salary. Some business owners make the mistake of not giving themselves a reasonable compensation and later on deduct finance directly from the cash flow of their startup. Pay yourself as much as you would someone else to take care of all the things you do for your business.
Base Your Owner Salary on Business Profit, Not on Revenue
In order for you to ensure the success of your business, you need constant cash flow, a great understanding of tax returns, an adequate business structure, and to achieve that as a sole proprietor you need to have enough funds to cover both business expenses and your personal expenses at the same time.
If you are really dedicated to your own business, it is best to base the amount of money you pay yourself on your business profit since that way your business would never run short on cash. Moreover, institutions like the IRS and the ATO prefer that you pay yourself a wage as a reasonable compensation instead of dividends. Meaning you would have to pay personal tax too.
Of course, paying yourself on a regular basis might not be needed all the time. If you have extra savings you can choose to keep the majority of the cash flow into your business. Many small business owners boost the growth of their startup that way.
If you decide to base your owner salary on revenue instead of on your business profit, you might end up drying the cash flow of your business and hitting a wall at some point in the need to reinvest. If the profit of your small business is not enough to cover a reasonable salary for you, consider using a credit card.
Take in Account Income Taxes and Super
Taxes are the main reason why many small business owners would prefer keeping more money in their business bank accounts. Different tax rates apply between income taxes and personal taxes. It is of utmost importance to be aware of the tax rates that apply to your business structure. You can find more information on the ATO website on what applies to your current situation. If you are GST registered, you can apply for a tax break.
If you are listed as an employee of your company you would also have to pay quarterly instalments for super.
Take in Account Business Expenses and Income Fluctuations
The covid pandemic gave a good example of how fast seasonality can shift. If it is the first year of your startup, you would not yet have the accurate information of which time of the year brings you the most income. If you own an older business, you would know exactly how things change throughout different seasons and even workdays.
Some businesses do better during the Summer, others during the Winter, and as a business owner, you need to take that into account. If you base your own salary on your monthly profits, they would take the fluctuations into account.
Business Expenses over Owner Salary
Business expenses such as importing goods or materials for manufacturing and paying the salaries of your employees should come before paying yourself a reasonable salary. In order for your business to thrive, there are some costs that need to be taken care of no matter what.
Tracking these expenses is essential for cutting your costs. As a sole trader or a small business owner, you can use good accounting software to track both your living expenses and the ones of your business.
Pay Yourself A Reasonable Salary While Investing In Your Business
All the money from your cash flow that remains inside your business can be used to write-off business taxes and the money that you take out of your business, cannot be deducted. It is wise to fuel your business’s growth and try setting aside money for possible technological innovations in your sector that might get introduced into the market soon. New equipment can often change the game for some industries.
Consider paying yourself a lesser amount of money an investment into your business. The more you pay your business, the more you would be able to pay yourself in the future. However, make sure to be able to cover your living expenses at the very least.
Regardless of whether you are an LLC, a sole trader or a small business owner, maintain a healthy balance between a good living and some self-sacrifices in terms of income, in order to ensure the growth of your business at a steady rate.