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How Do I Pay MYSELF As An Entrepreneur?
If you are starting a business and are unsure how to pay yourself this blog is for you! Part of the reason why you start a business is to make money for yourself and to do that you have to know how to pay yourself! Let's go back to the basics and discuss salaries, owners draws, and financial liability.
Keep All of Your Business’s Money in a Business Checking Account.
Even though certain business organizations (ahem Sole Proprietorships) do not require you to keep your business profits separate from your personal finances, you should still keep business profits and expenses separate! Remember, if you’re an LLC, this step is required. Keeping your business finances apart from your personal account will make it easier to do the accounting work for your business and file taxes at the end of the year. Additionally, it will be easier for you to pay yourself a consistent salary or monetary amount each month if your accounts are separate.
Transfer Money to your Personal Account to Pay Yourself
As a small business owner, creative, or entrepreneur, we are constantly investing back into our business. But, that doesn’t mean you have to invest all of your business revenue back into your business. You CAN and you SHOULD pay yourself! But, hold up, this isn’t a green light to take out all of the business revenue you make and transfer it into your personal account. Each individual business and person is different, so you should find a balance that works best for you. Keep some revenue in your business account in case of emergencies or future investment (TLP always suggests having three months of normal expenses as the “$0” amount and keep that in your business account), and then transfer periodic amounts to your personal account to pay yourself for all of your hard work.
If your small business is your only source of income, budget out your “needs” and “wants” and decide how much you need to transfer into your personal account every month or every two weeks or every week.
It doesn’t matter if you pay yourself weekly, bi-weekly, or monthly. Just try your best to keep it consistent so that your books look legit. However, the amounts don’t need to be the same (because you could have different weeks and months of income, and hours worked). You can also totally write yourself a check if transferring via online isn’t an option. Just make sure you have what we call a “cha-ching!” moment from one account into another that is a documented transaction and available for review.
Bonus Tip: Make sure you are diversifying your funds to different accounts. You should have a backup account with some money in it, in case your primary account is compromised.
Business Status and Tax Considerations
It is important as a self-employed individual to know how you registered your business and the tax implications that come along with it. The type of business entity you have will change the way you need to pay yourself!
A sole proprietorship carries the most amount of risk because all liability falls on you. If someone files a suit against you and you are found liable, you personally will have to pay for the judgment because your business and your personal liability are not separated in a sole proprietorship.
However, having a sole proprietorship can be advantageous in terms of profits, because if your business is booming, the profits are all considered yours. Under a sole proprietorship, profits from the business and your personal income are treated the same by the IRS–there is no distinction. Your income is the resulting profit after deducting all your overhead expenses on Schedule C of Form 1040. You are taxed on that portion, including a tax for social security under the Federal Insurance Contributions Act. Alas, with a sole proprietorship, it's not as important to pay yourself regularly. You can pay yourself at any time in any amount you want because it will all be the same for tax purposes whether the money is in your personal checking account or business checking account.
Also remember, even though all profits are personal income, it is crucial that you keep your business profits in a separate business account. This will make your life SO much easier and you can easily pull your income from your business account and deposit it into your personal account!
“LLC” or “L.L.C.” stands for “Limited Liability Company” and is one of the most popular business entities for small business owners because it is the easiest to form while shielding you from personal liability. This provides owners of the company with ‘limited liability’ regarding business decisions (…hence the name), such as being not personally liable for any debts incurred by the LLC and not being liable for most business-related lawsuits (unless they are intentional acts of yours).
Having an LLC means you can conduct what’s called an “owner's draw” to pay yourself. As long as you are a single-member LLC, you can write a check to yourself or transfer the money online from your business account to your personal account. You can make an owner's draw at any time for any amount. However, as mentioned above, it is better to have a consistent amount that you pay yourself. For instance, having around the same amount transferred bi-weekly or monthly is good for budgeting purposes and accounting purposes. Remember that you should also be setting aside money every month for taxes and an emergency fund.
You can also simply pay yourself through your LLC with a base salary each year. This route makes sense when there are multiple members in the LLC and/or if the operating agreement requires LLC members to be paid a salary. However, if you are paying yourself as an LLC via a salary you may want to consider filing as an S-Corporation because you do have to set yourself up on payroll… and you might as well get some tax benefits to doing that.
An S-Corporation is actually NOT a type of business formation or entity, but rather a tax designation. In order to be an S-Corporation, you must first form your business as a Limited Liability Company for legal purposes. When you become an S Corporation you then have to put yourself as the owner on payroll (and pay for someone to run payroll or get a payroll service) and you will have to file two tax returns (one for your S Corp and one for your personal taxes). You also will need to fill out a W2 and I-9 just like any other employee of your business.
Then, you have to come up with "reasonable salary" to pay yourself. This is a squishy number because it will vary based on your industry and region. Tax-wise though, you get a little benefit! Your salary will be a business expense so you will ONLY pay self-employment taxes (Social Security and Medicare) on your "reasonable salary"! The additional business profits—which are often taken as owner’s distributions––will not be taxed for self-employment purposes (but will still be taxed for all other state and federal income taxes). Thus, S-Corps end up saving a substantial amount of money each year in taxes due to not having to pay the 15-ish% of self-employment taxes on their owner’s distributions.
It's essential that you evaluate how you're accepting payments from your clients. If you're still accepting payments personally instead of through your LLC, it's time to make a change. As a responsible business owner, it's important to separate your personal and business finances, starting with the way you receive payments.Take action today and implement these recommendations to protect and elevate your business. Your financial security and legal legitimacy are within reach with The Legal Paige.
If you're ready to take your business to the next level of legal protection, I highly recommend purchasing TLP’s DIY LLC Registration Guide. This comprehensive resource will walk you through the step-by-step process of registering your LLC independently. It includes all the necessary links, important definitions, information on annual dues, and guidance on finding any required licenses specific to your state and local county.
For more valuable business advice, I encourage you to join The Legal Paige Facebook Community. This thriving community consists of thousands of entrepreneurs just like you, gaining real-time answers and insights on how to run a professional and legally compliant business.