It is not easy to run a business. With the balancing of sales, keeping employees happy, and staying one step ahead of the competition, it is easy for one crucial detail to slip through the cracks: how the owner gets paid. Many business owners jump in with big dreams and small budgets. They are so obsessed with growing the business that they often forget to pay themselves smartly and sustainably.
The Difference Between Profit and Pay
A common misconception among new business owners is the mixing of profit with income. The fact that the business is making money does not mean it is time to raid the account. Profit is what is left after all the costs are covered. That covers salaries, bills, supplies, and other operating expenses. If a business is making a profit, then it is doing well. That profit is not always the owner’s paycheck.
Pay, however, is a planned and organized form of income for the owner. It is a fixed figure that is part of the business budget. This is where many owners stumble. They end up taking too much, believing it is all theirs, or too little, thinking that they should sacrifice everything for the business.
A business requires structure and balance. Fair compensation to the owner sends a strong message to the employees, investors, and even the owner. It says, “This business is here to stay, and it’s being run like a real company”.
Setting a Fair Salary
What should the owner be paid? It is not straightforward to pick a number out of the air. It varies with the industry, the owner’s role, and the amount the business can afford. A person who works daily, monitors operations, and makes important decisions should be paid as any other top-level executive.
Begin with similar positions in the industry. How much does a person with the same responsibilities usually make? This gives a ballpark range. Then, closely examine the business finances. Can one afford to pay this amount regularly? If not, try to start lower and build it up. The crucial thing is to make a plan and follow it.
Consistency is key. It is easy to pay oneself more during a good quarter or not pay when things are slow. However, a regular paycheck instills discipline. It also comes in handy when one is applying for loans, taxes, or even when purchasing a home, because a predictable income counts.
Dividends and Profit Sharing
Business owners often receive dividends or profit distributions in addition to a regular salary. This method allows owners to benefit from the company’s success while keeping their base salary manageable. Dividends come from profit after taxes, while salaries are counted as business expenses. So, combining the two, salary and profit sharing, can offer flexibility.
This strategy can work well in established businesses with steady earnings. However, relying too much on profit distributions can backfire. If the business hits a rough patch, there might not be anything left to take. That’s why a reasonable salary should always come first.
Profit-sharing can also boost morale when extended to key employees. When staff feel invested in the company’s success, they’re more likely to give their best. It builds loyalty and strengthens the workplace culture. Still, owners should be cautious not to overextend. Growth needs reinvestment, and cash flow is the lifeblood of any business.
Tax Considerations
How an owner gets paid has tax consequences. Salaries are subject to payroll taxes, and dividends are often taxed at a different rate. It’s important to strike a balance between the two for tax efficiency. Ignoring this can lead to costly surprises during tax season.
That’s why it’s a good idea to plan. Some business owners try to avoid taxes by taking only distributions instead of a salary. However, this can trigger audits or penalties if the IRS believes the owner isn’t taking a “reasonable” salary.
There’s no universal formula which makes professional guidance valuable. A financial advisor in Howard County, MD or your area can help you break down the options and design a plan that fits your business and personal financial goals.
Conclusion
After all, the way an owner pays themselves reflects the way they lead. A business prospers when the leader is realistic and visionary. Paying yourself isn’t selfish. It’s responsible. It establishes a sense of professionalism and confidence, both of which are essential to long-term success.
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