Most of us get into business and we’re super pumped. We get our website up, market on Instagram, and tell our friends and family. We have Googled. We have talked to other biz owners and freelancers about how to get rollin. We land our first client, and it’s amazing. But then, a lightbulb goes off, and we think “uhh what do I do with this money.” Does it go into my personal bank account? Should I inject it straight back into my business. How does one pay themselves as a small biz owner?
Money may not be what motivates you, but we all need it. We all have bills to pay, retirement to save for, and dream vacations swirling in our minds.
When it comes to paying oneself, I see two struggles among new business owners. The first is not knowing how to take client payments and where to put the money. The second is the struggle between determining how to pay oneself and how much to pay oneself. Here’s the simple step-by-step on the basics to resolve these issues.
We all understand that we need, to some extent, to separate our business income and personal income. In the simplest terms, we should do this by paying all expenses from our business bank account and all personal expenses from our personal account. All business income also needs to go into your biz account.
Still need to open a biz account? Check out this blog I wrote on how to do that and what documents you need. Bookmark it for easy reference when you’re ready.
To get the money from one account to the other, I recommend writing yourself a check. Sounds old school right? I recommend this because it’s clean and easy. It leaves a paper trail. Unlike the average white-collar criminal, that’s what we do want. Your business bank transcripts should accurately reflect income in and expenses out of the business. Ideally, I could comb through your bank records and sort all debits into two categories, checks paid to you the owner, and then every other debit would be a valid business expense. Then, I could just add up all the credits (business expenses). It’d be quick and easy to determine an estimation of your gross income and net income. You would still have things like part of the mortgage or rent to deduct, for tax purposes, if you use a home office.
Note that after you form an LLC or corporation it’s actually required to separate your finances to maintain liability protection.
Every small business needs some type of bookkeeping system. It can be simple or super sophisticated. I tend to pitch three options for bookkeeping which range in price. The first to use a spreadsheet. The send option is to use a program like Quickbooks, and the third option is working with a professional. If you’re starting from scratch and need to completing build your book of business, I recommend starting with a spreadsheet and progressing to the goal of getting a bookkeeper.
Ok, so here’s the 100% truth when it comes to bookkeeping. It’s really not that difficult, and you can absolutely do it yourself. I’m telling this to you as someone who makes money doing bookkeeping for others. You, may be thinking “ok, Braden, so how the hell do you make money then?” Time is money. Bookkeeping can be tedious. But more importantly, it’s the advice I give based on the numbers that makes me and other professionals valuable. Therefore, I don’t recommend outsourcing your bookkeeping as your first business expense. I can’t give you much advice, as a bookkeeper, when you’re bringing in $10,000.
So, when is a good time to outsource? The answer, in my opinion is when you have enough client’s to fill your time, OR once your netting more than about $40,000 per year. This number is arbitrary, so it will vary per individual. Obviously, your ability to outsource will depend on your own financial situation, but once you’re bringing in steady income, a bookkeeper is going to save you serious time, and good professional can give you tax and business advice. Look for someone with knowledge on your industry and business model. I help with books over at Braden Drake Law. There I partner with Bench Accounting to do client books. They do the bookkeeping, and I advise clients on quarterly taxes and file their returns. If that sounds interesting, contact me at my law firm, or you can always just sign up directly with Bench. If you go through my link, you'll get 20% off your first three months.
As I noted above, you may not need a pro. A lot of new business owners start with a spreadsheet which is a great option. I recommend organizing the document according the line items on the small business tax return. To make that easy, you can download my free small biz tax deduction guide. Just categorize the spreadsheet by each deduction noted in the guide. If you want to save some time, I have a bookkeeping Microsoft Excel template. I categorized the document by month and by tax deduction. It’s also set-up with formulas to automatically calculate monthly and annual profit and to calculate certain deductions and make your tax return easy breezy. If you also download my Ultimate Quarterly Tax Guide, you can use that to determine how much to save for quarterly taxes. Put the % in the Excel doc I created, and it will automatically tell you around about how much to pay each quarter.
If you want a more automated solution, Quickbooks is a great tool. I’m biased towards QB because (a) they’re the industry leader and have terrific features and integrations, and (b) I use Intuit (the parent company’s) professional tax software, so if you or other’s hire me to do their return, the sync between QB or the tax filing software is amazing.
If you want to start using Quickbooks, you can use my link for 50% your first three months. If you are new to bookkeeping programs, basically it works by linking to your business bank account. That way all of your business transactions are automatically uploaded. You can also set rules to auto-categorize certain transactions. For example, I have can have the program automatically categorize my payment to WeWork as a rent expense. The more you use the program, the more automated it becomes and the less work you need to do. Once it’s time to file taxes, you can either import your books into Turbo Tax to self-file, or give your tax preparer access to your account.
Whether you are a DBA sole proprietorship or a corporation, you should have some system to pay yourself. It need not be complicated either. I noted above that the ideal method starting out is to simply write yourself a check from your business operating account. (If you need checks, I recommend ordering through Costco. They’re super cheap).
Pay yourself whatever you have left after you pay your business expenses. Figure how much you need in your account at any given time to comfortably pay your expenses. Write yourself a check for the difference. For example, I know that I have business rent of $450 a month. Online subscriptions for various programs total about $200 a month. My business is pretty lean, but I like to keep $1,000 in my biz account. On the 1st and 15th of each month, I write myself a check for however much I have above $1,000. If you are saving for a big ticket business expense, consider that. You may also want to consider opening a business savings account to stash money for quarterly taxes and other items you might want to purchase as a business expense.
Pay yourself whatever you need for your personal expenses. If your personal expenses total $3,000 a month, maybe you write yourself two $1,500 checks per month. Ultimately, as a pass-through single-member entity, it doesn’t matter whether the excess money (if you’re lucky enough to be in this position) sits in your personal or business account. You can then pay yourself a distribution on a quarterly basis as you accumulate more profit.
For new businesses, option one is the easiest. There’s no reason to keep money chillin in your biz account unless you’re saving for something. Move the cash over and put it work. Invest it. Treat yoself. Do something. The benefit of choosing a model more like option 2 is that you’re starting to treat yourself more as an employee of the business, which is actually great. This is a terrific practice to help transition yourself for the future. If you eventually want to form an S corp, you will put yourself on payroll and will need to take a regular salary.
However you decide to pay yourself, you should outline the process in an operating agreement. Once you get an LLC or if you’re starting with a general partnership, you need to discuss pay and details in the partnership or operating agreement. Confused on what a general partnership is or sole prop? Read this blog. Wondering what the hell an operating or partnership agreement is and why no one has yet told you that you need one? Read this blog.
The process is very similar. The only difference is that you need to be even more diligent about having consistent pay in accordance with the terms of your partnership agreement. It’s extremely important for business partners to discuss pay details before they start getting clients. One common problem is that one partner may wish to wait longer to make payouts in order to spend more on business expenses to accelerate growth, while the other partner wants to start getting pay sooner. Discuss expectations from the out set. While it’s ideal for everyone to work with an attorney when starting their business, it’s particularly important for businesses with partners.
Once you form an S corp, you MUST put yourself on payroll. What this means is that you will outsource your paychecks to a 3rd party. That company will send you check and make withholdings for federal and state income taxes, as well as your social security and Medicare taxes. You can also get on payroll before you form your S corp.
If you have employees, you’ll need to put them on payroll. Penalties for failure to make proper payroll tax withholdings are steep. The calculations are complicated, and you don’t want the headache.
If you want a little more info on payroll or s corps, you can check out this blog on the topic.
As small biz owners, we all need to be extra conscious about our small business taxes. I file returns for creatives each tax season and always have clients who get hit with large tax bills because they did not plan for tax season and pay their quarterlies. In many cases, the IRS also charges interest and penalties for failure to make quarterly tax payments. If you're not up to speed on this topic, make sure to check out my quarterly tax blog.
It has my 8-step system to estimate your quarterly taxes plus the directions on how to save and pay your quarterly taxes. Sign up to grab the guide.
Alrighty, so now you have properly paid yourself all year. You tidied up your bookkeeping and saved and paid those quarterly taxes. All you have to do now is file! I know tax season brings fear and confusion, but it doesn't have to be all that bad. If your books are good and you have been saving, it should really be a breeze.
If you have a relatively simple business model, you can totally DIY your taxes. If your situation is more complex hire a pro like myself, or someone else that you trust to file your taxes.
If a pro is not in your budget, but you want a bit of help, I plan to have resources for that as well. I'm still working on the details but the plan is to provide a mini-course that gives step-by-step directions on how to self-file your taxes. I should have that set up by February 1, 2019.
Follow the steps above to get your business on the right track. If you need more information, consider a consultation to get all of your questions answered and achieve piece of mind. But above all else, just remember that no one teaches us all this stuff. It's totally normal to be confused at first, but with time, all you will systemize all these things, and they will become a routine part of your business.