The definition of running a successful business is making money. But how do small business owners pay themselves and reap the benefits of that success?
The answer depends on your business structure and personal preference. That’s part of the added options and challenges that fall on business owners. You can choose to take a salary or an owner’s draw from your LLC, but you also have to make sure the business has enough cash and working capital to continue to grow.
Here are some things to think about, and the pros and cons of each decision.
Think of the Business First
Paying yourself as a business owner is never obligatory.
In fact, many entrepreneurs choose to leave money in the organization until there are substantial reserves and healthy cash flow. If you are already mulling over the best way to pay yourself from your small business, you’ve probably already reached this threshold. But to be certain, review the following factors first. Paying yourself a wage from your business is sensible if you have money to pay for these items — if not, make provisions first.
- Quarterly estimated tax payments, which are typically paid to the IRS based on quarterly profits throughout the year
- Regular business expenses, such as leases, equipment, salaries, wages, licenses, fees, supplies, maintenance, inventory and business insurance
- Irregular business expenses, such as renovations, improvements, investments, emergency funds, expansion
- Cash reserves to ensure healthy cash flow
In short, you don’t want to be paying yourself from your business if your business can’t afford it — that’s a recipe for disaster. Once you’re satisfied the business warrants your salary or draw, decide which of those is best for you.
Ways to Pay Yourself from Your LLC
In general, there are two ways you can get paid from your LLC: by taking a salary or an owner’s draw.
Different forms of small business ownership may warrant a similar choice, but this discussion is limited to LLCs. This structure is a common pass-through entity. If you are owning an LLC and paying yourself, the salary or draw you take will be claimed on your personal tax return.
Note that the rules about LLCs vary from state-to-state, and a local lawyer can help you to determine how to pay yourself from your LLC. If you are in a multiple LLC, every owner may have to make the same choice to either take a salary or draw. Also, the IRS guidelines will help you to answer the question of how much should you pay yourself as a business owner. Basically, if you take a salary, it has to be in line with industry norms — it can’t be outrageous, even if you are an amazing owner/employee.
By drawing a salary, you essentially make yourself an employee of the business.
This cannot be merely on paper; you will have specific duties attached to this designation. They may be identical or similar to those duties you perform anyway as the owner. Being an employee helps answer the question of how much to pay yourself from your business because you simply have to look at similar wages paid to owners of companies your size in your industry. As the business grows, the salary can go up.
The salary option is excellent for owners who do not like the additional burden of personal tax planning. Your business administration — your accountant or human resource person — takes care of your paychecks and the regular deductions, like any other employee. There’s also a measure of certainty for you and for the business. You know how much money you’re taking home, and the business has a predictable expense on its books.
At the same time, the salary is a drain on the cash resources of your company. So it is smart to periodically review this expense and decide if it is the best way to pay yourself as a small business owner.
The owner’s draw is much as it sounds: you take a lump sum payment out of the reserves you have in the company.
The amount you have available is usually the amount of your initial investment plus any profits that have come into the business. So, if you initially put $50,000 into the business and this year your share of the profits amount to $100,000, you have $150,000 available to you.
It’s important to recall again that LLC regulations vary by state, so consult a lawyer about what state laws may mean for your owner’s draw out of an LLC. You can get a sense of your state’s regulations by consulting an online resource for this business structure, broken out by region.
The owner’s draw has the benefit of a flexible payout. Basically, you can take money out of the company whenever you want. There’s no ongoing expense for the company as there would be with a salary. There are downsides, of course. You have to plan and remit your own taxes, which may have to be paid quarterly. Also, the money you take out of the business limits what’s available for other company priorities.
If you do decide to take a draw, you don’t have to restrict yourself to an annual payout. You can draw money from the company on a more frequent — or less frequent — basis.
Working Towards Long-Term Stability and Growth
It’s a great sign that you are wondering how to pay yourself from your business LLC. Right now, things may be going very well. As an entrepreneur, you want to continue to meet and overcome small business challenges to ensure continued growth. Some fundamental elements of this are:
- Sufficient cash flow, sound economic practices
- Adept marketing to promote repeat and new business
- Operational efficiency, valid contracts of insurance
- Reliable and motivated team members to make the business succeed
After all, if your business continues to do well, you’ll continue to have to ask yourself how to take money out. This assessment is a welcome burden for any entrepreneur.