Pay Yourself: Why Founders Should Set Aside Profits Every Month
A Note From The Editor
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As the owner of a startup or growing business, it’s tempting to reinvest every dollar of profit back into your business. Many founders take the extreme path of paying themselves nothing until that magical future day when investors are repaid, the business runs in the black and they feel they have enough of a financial cushion to take a salary.
The problem is that the magical day may never come, especially if your business continues to grow. There will always be new investments beckoning, projects on the horizon or other bills to pay. Everyone else might be paid before the founders.
Becoming profitable is every business’ goal. To do so, many founders make sacrifices, including their salaries. Although you may need to pay yourself nothing (or next to nothing) in the early years of your company, at some stage of growth you should begin to take a salary. Here’s why:
- It’s counterproductive to deprive yourself: If you’re living off savings, no income from your work means nothing is replenishing your personal piggy bank. Your spouse or dependents may grow increasingly restive at Ramen-noodle suppers and setting the thermostat at 60 to avoid high heating bills. When your company reaches the profitability stage, you can safely start paying yourself and ease the worries at home over finances. Although it’s normal during the startup phase to forgo a salary to get your company off to a running start, it’s also reasonable to start taking some of the profits each month to pay yourself back.
- Fair pay for fair work: Many founders pay themselves a modest base salary but share in a higher percentage of a business’ profits. If you have investors and part-owners, this may seem like the fairest arrangement and one that inspires founders to work harder. After all, the harder you work, the more potential you have for profits and income. Setting aside some of the monthly profits for yourself is fair if this arrangement is clear to other investors.
- Your time is valuable: Founders often have curious ideas about startup costs. They often account for obvious costs, like the cost of office space and rent, telephone and internet, office supplies and electricity, but founders neglect to account for their own hourly wages. As a founder, your time is valuable. A good rule of thumb is to estimate what your time would be worth to a comparable employer and use that as your base salary. In the startup phase you may need to take a lower salary, but when there is a monthly profit, you’ve reached the point at which the company can support itself and pay you a fair wage. Remember, nobody works for free -- and you shouldn’t, either.
Investors or no investors, you should be paid
Some founders assume that if they have investors who contributed capital to the business, they should be paid off completely before drawing a salary. If you have turned a corner and your business is now profitable, it is reasonable to begin drawing some salary from monthly profits.
Many investors are understandably wary about founders who want to take lavish salaries from day one. That’s understandable. Investors want to see that you’re as heavily invested, if not more so, than anyone else in the company’s future. Forgoing an annual salary until the initial startup phase is over and your company is profitable may be part of their initial expectations.
However, when your company has become profitable, it has clearly demonstrated that it is beyond the startup phase and is moving into solid territory. At this juncture, most reasonable investors will agree to having you pay yourself first out of the monthly profits.
Investor repayment should be carefully spelled out in the agreement you made, in writing, with your investors. It’s fair and reasonable to budget salary requirements, including your own salary, into your company’s budget. Paying yourself first each month, reinvesting profits into the business and paying your bills are all part of successful financial management.
Avoiding startup burnout
Lastly, paying yourself monthly from the profits before investing the rest back into the business helps founders avoid “startup burnout." Many founders find themselves toiling at their business with little reward other than the adrenaline rush of success. Unfortunately, you can’t live on adrenaline forever. At some point, founders need to see tangible rewards from their efforts. It’s safe to say that if you’re generating a monthly profit, you can begin rewarding yourself with some of the profits.
How much to pay yourself
The answer to how much to pay yourself varies considerably according to industry, other potential investors, overhead costs and more. Budget for your salary and apportion a percent of profits from the inception of your business so that when your business is profitable, you can pay yourself without worrying that investors or others will question the amount.
According to Brian Honigman, quoted in the Wall Street Journal, founders should take 20 percent of the profits and reinvest 80 percent. That ratio seems fair to most investors and others and gives founders enough of a reward that it prevents burnout and helps them pay the bills.
Related: How to Budget Your Own Salary
It’s exciting to start a company and watch your dream grow into reality. Profiting from dreams come true isn’t unfair. Pay yourself first each month when your company is profitable to prevent burnout, avoid stress and reward yourself for a job well done.