A frequently asked question I get from startups and small business owners is “How much do I pay myself from my business?” Many business owners pay themselves in all sorts of interesting ways, which in many cases leads to, paying significantly more income tax, poor cash flow and hindering the businesses opportunity to grow.
Before you even begin to think about paying yourself from your business, its best to understand the structure that you are using to run your business. Are you a Sole Trader, Partnership, Trust or Company? As majority of our clients operate via a company or trust structure we will focus on these entities.
Business owners usually pay themselves in two ways. One, they pay them self a recorded wage each week, fortnight or month, withhold the appropriate tax, then issue a payment summary at the end of the year. The second and most commonly method used by new businesses owners is to take out whatever they want, whenever they want. Depending on the structure you are in, taking out money whenever you want may not be an option. I know, its your business so its your money right? Well, not quiet. Its best to think of the Trust or Company as a completely separate person to yourself. A personwho you are helping run the business. If this person had $10,000 in their bank account, would you log into their online banking and transfer yourself a cheeky $1,500? I don’t think so. This person will decide the arms length market value of your service for helping run the business and pay you appropriately. By thinking this way, it will assist you in not contravening the ATO’s Division 7A rules which could lead to tax of up to 76.5% (we recommend asking your accountant about this) and ultimately allow your business to grow.
So how much should you pay yourself? This all depends on your businesses cash flow and future goals. For new businesses, I always recommend figuring out how much cash you would need to meet your essential personal living expenses, then compare this to how much it would cost to hire someone to fill your shoes in the business. I would generally choose the lower of the two.
Assessing your businesses cash flow and required working capital is the next step. Ask yourself, with the wage that I have chosen, is there firstly enough cash flow to pay yourself? And secondly, will there be enough working capital leftover to keep the business running on a day to day basis? If the answer is no for either, then I suggest reviewing the wage you have chosen or somehow trying to lower your current living expenses. Many business owners will choose not to pay a wage at all and pay themselves a Dividend or Distribution instead. Either way the method of payment reflects that amount you worked out above. As the business grows, re-assess the amount and adjust it appropriately always considering cash flow and working capital.
By following the above, it will increase your confidence in running your business knowing that it has a healthy amount of cash backing it. If you are serious about creating a successful business always remember that although you may not be earning a six figure wage in the short term, the sacrifice and discipline of keeping healthy cash in the business will ultimately lead to longevity and growth.
As always, I recommend utilising cloud software such as Quickbooks Online or Fathomto assist in managing your businesses financial information. This teamed up with a reliable business adviser and bookkeeper will no doubt set your business up for success.
For any questions about Accountants Guide Gold Coast, feel free to email me on Reuben@new-wave.com.au – Bookkeeper Gold Coast