Why It’s So Important to Pay Yourself First in Small Business
As a Small Business owner I am sure you have heard of the concept of paying yourself, however based on my experience by working with hundreds of business owners it’s a concept that many don’t practice.
I believe there are a couple of reasons for this, the most common being that Small Business owners feel compelled to put everything back into their business as they will get a better return on investment than if they had it in other investments.
We have all heard the saying that you shouldn’t have all your eggs in one basket; and that is also true for business. There are numerous factors, many of which are outside your control, that can have a serious impact on your business and even possibly put you out of business. If you have re-invested everything you’ve made back into your business and it doesn’t work out, you may then be left with nothing.
When looking at paying yourself first, it will often depend on what stage your business is at. The reality is that you are going to need some money to live off. Now this money may be coming out of savings at first, however at some stage, you are going to need to be able to take some money out of your business.
If you haven’t been paying yourself first. It’s time you start.
Here’s how to get started:
1. Work out how much it is going to cost you to live
You want to know that your basic living costs are going to be met. Yes, you need to do a personal budget and make sure that you are going to have enough money to cover your basic living expenses. Now there is nothing wrong in having two or three budgets.
Budget One might be when you are starting your business and can afford to take very little out of the business. Budget Two would be when your business is now sustainable and you are able to afford to take a little more out of the business. And Budget 3 is when you are enjoying the lifestyle that every courageous entrepreneur deserves.
WARNING: I have seen many businesses suffer and fail because the owners have “killed the golden goose” by taking too much money out of the business.
2. As soon as you can and ideally from the start, you should have insurance
There are a number of different types of insurances and often you will have to make some hard decisions if you can’t afford all of them. A great rule of thumb is taking out insurance for what you can’t afford to lose.
Something which is often overlooked by business owners is income protection insurance. Think about what would happen to your business and your personal life if you were not able to work and generate an income?
3. Keep track of how much you pay yourself compared to what would be considered a fair market wage
Having started a number of business myself, I am very familiar with the concept of “Bootstrapping” a business. In other words, not being able to take a fair market wage out of the business. Having done this, I can strongly recommend the that you keep track of the amount of money you take out of the business and how much you should be taking as a market related wage.
This difference is what we call “sweat equity”; it is your investment into your business. You are an investor in your business and all good investors expect a return on their investment. Over time as your business grows and becomes more profitable you will be able to take more money out of your business than a market related wage. You will feel even better knowing that you are being rewarded for your earlier efforts where you didn’t take a market related wage.
Remember it is going to cost you something to live, you want to know what this is and track the amount of money you take out of your business. As you build your business, it will go through various stages including start up, expansion, maturity and sometimes it might be even be in a decline. Depending on the stage of your business will depend on how much you can or should pay yourself.
By having both a personal and business budget you will be able to make better informed decisions, diversify your risk and have a backup plan.
“The opinions expressed by Smallville Contributors are their own, not those of www.smallville.com.au"
SHARE THIS ARTICLE WITH LIKE MINDED SMALL BUSINESS PEOPLE