When you work for someone, it’s easy! Your employer tells you how often you’ll get paid and they’ll handle all your tax for you. But when you go self-employed, it’s up to you to decide on the frequency and the amount you’ll give yourself. So where do you begin? And what are the tax implications of paying yourself, and how do you take the money out?
I’ve seen so many sole traders who don’t prioritise paying themselves, even though the whole reason they started working for themselves was to be in control of their earnings! The consequence is that they end up miserable, behind on their personal bills, facing paying taxes they haven’t budgeted for and, worst of all, contemplating going back into employment because they need the safety of a regular wage.
In this guide, I’ll show you create a way to pay yourself that is good for you, keeps your business financially stable and helps you to budget for your tax.
- How to Pay Yourself as a Sole Trader
- How Much Should You Pay Yourself?
- How Often Should You Pay Yourself?
1. How to Pay Yourself as a Sole Trader
When you’re a sole trader, all the money left after paying your business expenses and taxes belongs to you, and it is that figure you get taxed on regardless of how much you have taken. Your salary is not a business expense.
It’s totally up to you to choose how much you take from your business bank account and when. You need to pay yourself with a simple bank transfer from your business bank account to your personal account. The money you pay yourself is called drawings.
If you don’t have a separate business bank account, I urge you to open one. It isn’t a legal requirement for sole traders to do so, but it will make managing your business finances easier and speed things up at tax time, as well helping you to feel more professional. Take a look at Starling, a popular option in the self-employed community.
2. How Much Should You Pay Yourself?
The amount you should pay yourself as a sole trader depends partly on your personal and business circumstances. There are three main options that you can choose from:
2.1 Pay Yourself What Your Business Can Afford
If your business is in its early stages, sales may be low, or you might be covering start-up costs meaning there isn’t much left-over to pay you the level of salary you may want. Some sole traders choose not to take any salary at all, instead, treating their time as an investment. This is fine for those with personal savings or other forms of income. But if you do not have this luxury, do not leave yourself struggling to pay your bills because that will affect your credit rating.
Instead, you can pay yourself a salary that takes almost all the profit out of your business. If you choose this approach make sure you budget for your tax bill so there is enough left behind to clear this bill because remember drawings are not an allowable business expense.
2.2 Pay Yourself What You Need
Another option is to pay yourself exactly what you need to cover your personal bills like car payments, rent and food. People tend to choose this option if:
- They are starting a new business and want to invest their time in setting it up rather than take a salary;
- Want to save money up in their business rather than putting taking it all as drawings;
2.3 Pay Yourself What You Would Be Paid if Your Were Employed
Another option is to pay yourself what you would be paid if you worked for someone else. That way you be fairly remunerated for what you do and can reinvest any profits back into your business.
Whatever option you choose always have your business’ best interest at heart. There is no point destroying the thing that is paying you and all your hard work. So, create a business budget to understand what you expect to make in your business and what you can realistically pay yourself.
3. How Often Should You Pay Yourself?
This is totally up to you, but setting yourself a regular payment not only makes managing your business and personal finances simpler, but it’s also rewarding to receive your ‘salary’. I know many people dip into their business account as and when they need money or divert funds from something like Paypal straight into their personal bank account, but this is a really confusing way to run both your business and personal finances. You’ll also never have a clear picture of how your business performs and it’ll make things stressful if direct debits start failing or your card gets declined.
Instead, work out exactly what you need as a salary to cover your personal spending and build savings for the things you want, and pay yourself that amount on a set day, just like if you were employed. If you find out your business won’t be able to pay you this salary, then take action by increasing sales, reducing costs or looking at ways you might be able to reduce your desired salary, at least in the short term.