Money Matters

How to pay yourself as a small business owner

When starting a business, how to pay yourself and how much are among the most challenging but ultimately satisfying decisions.

OK, your business is up and running and making money.

Now to the fun part – how to pay yourself as a small business owner.

Sounds easy, right?

Many startup business owners are used to being paid by an employer and not having to think much about it.

They may be less familiar with the idea of paying themselves or running their own salary process, which can be less straightforward.

Paying yourself can be a satisfying task. But it can also be complex and how you do it depends on many factors, including:

  • Profits
  • Cash flow
  • The needs and structure of your business
  • Personal income needs
  • Your personal and business tax situations.

To help you understand how to pay yourself as a business owner, we cover some essential advice in this article. And it features support for sole traders, partnerships and limited companies.

Here’s what we cover:

How much do small business owners make in the UK?

How much to pay yourself

How to pay yourself from your business

How to pay yourself if you’re self-employed

How to pay yourself in a partnership

How to pay yourself from a limited company

How to pay your own tax

Final thoughts: Despite the complexities, paying yourself has got a whole lot easier

There are no statistics available on what small business owners pay themselves in the UK.

The closest we can get is to look at average net profits.

According to Legal & General’s SME report 2019, 51% of businesses that are two years old or less have a net annual profit of £50,000 or less.

Those between three and 10 years old turn an average profit of £261,000. Those aged 10 years or older earn £342,000 a year on average.

As you start trading, you’ll gradually get an idea of whether your revenues, profits and cash flows match your forecasts. This will help you decide how much you want to pay yourself and or reinvest in the business.

Business life is full of little surprises such as pandemics, leaving customs unions and global financial crises.

So always leave plenty of money in the business as a buffer if anything goes wrong, either economically or personally, for example, should you need sick leave.

You also need to set aside money to cover tax, business costs, and investment for expansion.

Think carefully about how much income you need to support yourself and your family, and balance that with the needs of the business.

Consider paying a percentage into a personal pension each month, as that’s tax free, up to certain limits.

If profits are relatively consistent, pay yourself a modest regular sum to help you cover monthly household bills and other outgoings. You can top up your earnings intermittently if the business is doing well.

Try and benchmark your takings against competitors by looking at sector turnover data, salary surveys and attending industry conferences and forums.

If your takings are not as much as you’d like, look at ways to boost profits in the business by, for example, finding a niche, or experimenting with marketing, sales, pricing and cost-cutting exercises.

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How you pay yourself depends on your business structure.

Partnerships and self-employed people take drawings directly from the business. You just need to keep enough by to cover future costs and pay your Self Assessment tax bill.

Directors of limited companies are different in that they are usually both an employee of the company and an owner, so they pay themselves a salary plus dividends.

Depending on how disciplined a saver you are, you may want to open one or more business saver accounts, alongside your business current account.

This helps you keep money earmarked for personal earnings separate from those for income tax, VAT payments, buffers, investment capital, and/or other purposes.

As a sole trader or a partnership, the profits are yours and you can do whatever you want with them.

Being self-employed is usually the simplest arrangement in terms of how to pay yourself.

Some self-employed people may just have one bank account (their personal account), in which case there’s no need to physically pay yourself at all. You just take spending money out of the same account your earnings go into.

Or if you have separate business and personal accounts, you simply transfer funds from one to the other.

It’s advisable to have separate accounts, as this helps you manage your finances much more easily and tidily.

Make sure you keep all the required records for self-employed people.

In a partnership, profits are shared between the partners. So you and your partners pay yourself simply by withdrawing your agreed share of the profits.

Partners must also keep specific business records.

One nominated partner keeps the records, but all partners are responsible for the records.

Paying yourself in a limited company is more complicated and there are more record-keeping requirements.

If you want the company to pay you a salary, expenses or benefits, you must register it as an employer.

The company must then take income tax and National Insurance contributions from your salary payments and pay these to HMRC via the pay as you earn (PAYE) system.

This is best done through a specialist in-house or an outsourced payroll function, often supplied through your accountancy firm.

A payroll function will comply with all relevant regulations and record keeping requirements and ensure the appropriate income tax and National Insurance is deducted and paid on time.

It needs to use payroll software, so make sure your function uses a modern cloud-based payroll solution.

This enables them to work as quickly, efficiently and accurately as possible.

For small companies with a payroll function, you can still pay yourself by drawing out of your business account. You just agree the correct amounts with your accountant and or payroll function first.

In addition to salary, you can pay yourself a dividend from the available profits.

You can’t count dividends as business costs when you work out your corporation tax. You must usually pay dividends to all shareholders.

You must hold a director’s meeting to declare the dividend.

If you’re the only director, you simply create a minute with the relevant details, or get your accountant to do it. Then you can pay the money to yourself from your bank account.

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Self-employed people and partners are taxed on the profits you make, not on your drawings.

Self-employed people pay this tax through the Self Assessment system, including payments on account. Partners share the business’s profits, and each partner pays tax on their share via the Self Assessment system.

Make sure you understand which expenses are tax-deductible.

Limited companies pay corporation tax on their profits.

As a director, you also pay income tax and National Insurance through PAYE on your salary, and tax on any dividends you earn through the business over the current dividend allowance of £2,000.

Dividends are classed as personal earnings, so you do this through the Self Assessment system.

To maximise tax efficiency, company directors often pay themselves a salary up to the personal allowance – then the rest in dividends. This can work out slightly more favourably compared to employment or other self-employed structures but limited companies are administratively more onerous.

Your accountant or payroll function will instruct you on how to pay each tax you owe to HMRC.

And if you have any queries on managing your tax affairs, contact your accountant or a tax adviser.

Getting paid by your employer is relatively easy. They do all the sums and administration for you – you just receive the payment at the end of the month.

Whether through self-employment, a partnership or a limited company, working for yourself can give you much more control and tax efficiency.

However, it also requires more thought and effort.

But a good accountant and state-of-the-art accounting and payroll software can make the tasks involved much easier to manage.

They’ll remove much of the hassle, leaving you to focus on growing your business, making money, and, best of all, spending it.

Turn your payday into a yay day with Sage Payroll

Fly through your pay run in 4 simple steps with a payroll solution that's secure, accurate and compliant.

Explore Sage Payroll