How to Set Your Salary Deciding how much to pay yourself can be tricky. Here's how to determine what you're worth.
It's your business and your budget -- which means the size of your paycheck is entirely up to you. But while the freedom of setting your own salary sounds great in theory, in practice most business owners find it tough to call.
Should you pay yourself what you need to cover expenses? What your business can afford? The salary you left behind to launch your business?
Your salary needs will depend on your living expenses, financial situation and comfort level with drawing on personal savings.
The first step in planning your pay is to put together a comprehensive list of your expenses. When you've computed your annual personal expenses, divide by 12 to come up with the monthly salary you'll need to receive to keep from dipping into your savings.
Next, you'll need to compute what your salary should be given your knowledge and skills, the time you'll put forward and the work you'll perform.
There are two equally valid methods for computing your market worth:
Open market value.
Given your experience and skills, what would you be paid by an employer in today's market? While this salary won't take into account the additional time you'll put into a startup, the income you're sacrificing to start your business is a useful benchmark in setting your salary.
Comparable companies.
What do the owners of similarly sized firms in the same industry and geographic region pay themselves? To get comparable salaries, check with trade associations, other entrepreneurs in your industry or the local Small Business Development Center.
Neither of these methods takes into account the additional work you'll be taking on as an owner, or the risk you're taking in starting a business. Some entrepreneurs boost market-based salaries by 3 to 5 percent to offset the added responsibilities and risk. Others look at the potential long-term advantage of owning a successful business as compensation for these factors.
Once you know the salary you need and the salary you deserve, it's time to balance those figures against your business' finances.
You'll need to check the cash flow projections in your business plan to ensure that you have enough money coming in to cover your own draw in additional to your other operating expenses.
In the ideal scenario, your cash flow will have a surplus large enough to pay your market-worth salary, reinvest funds in the business and leave a little margin for error.
Unfortunately, that's unlikely. Since most startups initially operate at a loss -- generally for at least six months and possibly for as long as two years -- you should plan to start with compensation within the minimum salary range. You can ratchet up toward a market-worth salary as your business reaches a break-even point and continues to grow.
Because your business income may ebb and flow initially, a base salary with a bonus structure that kicks in when your business reaches the break-even point is usually the best way to handle owner's compensation in an early-stage company. When the business reaches a point of consistent profitability, it's time to reevaluate your salary.
