Just about everyone likes to say that they’d like to put up their own business eventually, but few of them actually end up doing exactly that.
It’s hard to blame those that don’t, however. Let’s face it: making the jump from employee to business owner is tough, especially at the beginning. Sure, we all dream of being our own bosses, watching our fledgling enterprises grow into full-fledged companies, and of course, making more money than our employed counterparts, but there are ways to go before we get to any of that.
One thing they don’t tell you about being an entrepreneur is that you can expect to earn next to nothing at the start. Oh, your business might make money right off the bat, but many owners often forget to factor in their own salaries into the equation.
Typically, we calculate profits by deducting expenses like wages, utilities, and other operating costs from the firm’s revenues. If you get a positive figure, that’s great. It’s even better if the said figure is double that of your expenses. However, because many owners see their businesses as extensions of themselves, they tend to mistake the company’s profit as their own. That’s wrong.
Businesses live and die by their cash flow, so a good portion of the profits should be reinvested into the company as funds for future expansion and emergency expenses (e.g., equipment repairs, income stream volatility, etc.), among other things. Thus, the owner’s salary, if any, should be considered completely separate from this. So, when you’re still trying to get your start-up off the ground, it’s normal to forego your salary as the owner so you can keep your business afloat, hence an initial payment of zero.
But how about if your business has been up and running for months and you’ve steadily been turning a profit? Should you pay yourself a salary then? In a word, yes. Here’s how:
1. Assess your business’ performance.
Arguably the trickiest part of determining what your salary should be is checking if your business is ready to give you one. The simplest method is through asking three simple questions:
Does your business have sustained revenue?
This is a great gauge as to whether your revenues regularly and significantly surpass your operating costs (and are thus sufficient enough to give you a payout). Steady clients and streamlined, efficient business processes with minimum to zero waste are all good indicators too.
Does the business have steady projected revenue?
Another way to look at this question is to consider your business’ growth pattern. If your client base is about to increase or if an upcoming innovation or addition to your product or service offerings will give you an edge over your competitors, your company is likely to be on the right path towards robust finances.
Is the business in the black?
Simply put, this means your business no longer has any major outstanding debts that require a huge portion of your regular profits as payment.
If the answer to all three questions is “yes,” you can definitely afford to pay yourself, which brings us to the next item on this list.
2. Calculate the appropriate salary.
Most accountants recommend paying yourself as modestly as you can so that you can afford to invest more into the business, but the definition of “modest” can vary from person to person.
A better option would be to compute your personal expenses and then to reconcile the resulting figure with how much you can afford to take from the business. Put together a comprehensive list of your annual expenditures, including utility bills, mortgages, car payments, grocery bills, gym memberships, and even credit card bills. Leave nothing out. If you underestimate your expenses and slip into debt, chances are, your business will too.
Divide the total of your annual expenses by 12. If you plan to stay employed while launching your business (hats off to you, by the way), you can deduct your annual salary from your annual expenses and then divide that figure by 12. If you got a negative figure, it means you can still support yourself without a salary from the business as long as you’re still employed. If not (or if you’re diving into your business venture without a safety net), the quotient of that equation is the minimum you can afford to pay yourself so that you won’t have to dip into your savings.
Alternatively, you can also look at how much an average employer would compensate you for your skills and experience in today’s market. While this sum doesn’t take into account the additional time you’ll put into your company, it is a good benchmark for determining your salary from the business.
3. Consider a base figure with a bonus structure.
Once your business is doing so well that it can easily afford to pay you an appropriate salary, you can study the possibility of giving yourself bonuses whenever actual revenues far exceed projections for a certain period.
For instance, if your company’s income consistently exceeds your annual targets, you can opt for bi-annual or even quarterly bonuses, depending on whether your business is cyclical or constant throughout the year.
Having a business is much like having a child. Putting it up involves a lot of time and effort that’s akin to a mother’s birthing pains, and the best owners pretty much stop at nothing to set it up for success.
Still, in the same way that you can’t be a good parent if you don’t take care of yourself, anxiety about your personal finances is in no way conducive to effectively running an enterprise. You’ll definitely have to make adjustments at the beginning, but don’t dally for too long when it comes to compensating yourself properly either. After all, what’s the point of building an empire if you completely neglect yourself in the process?