Should you or shouldn’t you pay yourself a salary?
I can’t tell you how many times I have discussed whether or not a sole proprietor should pay themselves. The conversations usually start with the entrepreneur explaining that they will not be taking a salary because they want to reinvest all funds into the business to help it grow faster.
OK, point taken.
Reinvesting in the business is a good idea, but not if it is at your own expense.
Not only is it important to pay yourself from a planning perspective, but also from the viewpoint of being able to correctly identify the costs associated with running your business. There are different ways to calculate your salary. In this article we will review how to identify what to pay yourself and why.
In Bermuda many people tend to start their business on a part-time basis and thus the need to take a full salary may not be a necessity.
For the purpose of this article, let’s proceed with the assumption that the start-up is the only source of income for the entrepreneur. How then you determine your salary?
For those who are hoping to reinvest any extra funds back into the business, let’s start by identifying all your personal expenses — your basic necessities (i.e., food, school fees, rent/mortgage, license and insurance, etc). Understanding what you need to cover to live can help you arrive at number that you can be comfortable paying yourself.
This becomes important because entrepreneurs can start out by mixing business with personal expenses thus impacting their ability to track and grow their business. Remember, just because you may earn all of the money, does not mean it is all yours to spend how and when you want. Think about it this way, if you worked for someone and earned a salary, when the money runs out, you don’t go back and ask your employer for more money. No. You wait until your next paycheck.
This same logic should apply to your own business. Avoid creating bad habits when you start your business by making a conscious effort to identify a salary for yourself and stick to it.
Paying yourself enough to get by is one way at trying to ensure that any additional monies earned will get reinvested back into the business. However, does this help you to identify the true costs associated with running your business? Can you feel confident that if you had to hire someone to do what you do for your company that they will accept what you are paying yourself — probably not.
In this regard, how should you calculate what you “really” should be paying yourself? Well, let’s start with what you are worth. When you are building your business plan, do some market research to help you to determine what a person like yourself is worth. By paying yourself what you are worth you allow yourself to see a more realistic picture of your true operating costs. Your worth should be based in reality, too. You could make the argument that the business wouldn’t exist without you, but that doesn’t mean you should be collecting a $50,000-a-month paycheck. Well, at least not yet anyway.
One way to be able to calculate what you should “really” pay yourself is to balance your needs against what the business can afford to pay. You could also look at the market rate to help guide your salary.
Typically when you start paying yourself at the market rate, the company can afford it and thus should be operating in the black. Some benefits for paying yourself at the market rate:
— You force yourself to be able to understand the value of your own time
— Helps to prioritise tasks and delegate those less important ones
— You create an opportunity to work on the business not just in it
— You have a greater chance at attracting better employees — paying yourself what you are worth makes it easier to pay someone else their worth
Although not an exhaustive list of reasons that you should pay yourself, these are certainly some of the more important reasons. The key is to start with best business practices so that as you grow you are helping not hurting your business. After all, if you can’t afford to pay yourself a salary, can you really afford conduct business?
Jamillah Lodge is a Business Development Officer for Bermuda Economic Development Corporation. She specialises in providing aspiring and existing entrepreneurs with business development advice and loan guarantee assistance.
The opinions expressed in this article are those of the writer and should serve a general guide and should not be considered as replacement advice from a lawyer, accountant or other professional service provider. Readers should consult with the appropriate professionals as necessary.
If you have questions about starting a business in Bermuda, contact BEDC: firstname.lastname@example.org or call 292-5570.