Starting your own business and watching your dream come true is exciting, but how do you decide your own salary?
Startup leaders are often tempted to invest as much as they can back into the business. While this can be a tricky situation to deal with, most successful entrepreneurs have the same advice to all new startup leaders; pay yourself first.
There are various theories answering the question of “what do I pay myself?” However, the base of all these theories remain the same. Here’s what you need to keep in mind when contemplating founder salaries.
Importance of paying yourself
If you are depriving yourself of a salary and living off savings, you are hindering the growth of your business. During the initial days of your startup journey, it is common for founders to give up a salary to ensure the business runs smoothly. However, this practice can only go so far. It is common practice for founders to pay themselves a basic salary but share a higher percentage of the business’s profits or tap into ESOP. This is a fair arrangement for investors and other founders. Other than that, just like any other employee, your time and efforts put towards the growth of the business are valuable and focus need to be on ensuring the business is successful, not worrying about whether you can pay rent this month.
How much should you pay yourself
The initial days of your startup must be focused on minimizing your overhead costs. However, this does not indicate that you don’t have to pay yourself at all. You must pay yourself enough to cover your costs, at the least. You will need to carry out basic budgeting and planning to ensure you are on the right track with chalking out your own salary. Let’s delve deeper into the calculation of how to know what the right amount is that you should be receiving as your salary. There are two theories while deciding this; first one is to pay yourself enough to get by and the other is to pay yourself what your worth is. Brian Honigman recommends founders to take 20% of the profits and reinvest 80% as this ratio seems fair to most investors.
Paying yourself enough to cover your costs
You want to pay yourself the basics to cover the living requirements and other expenses. Start by determining the necessities and put together your personal financial statement listing all your living expenses, credit card payments and outstanding loans. Once you have added up your annual personal expenses, divide that by twelve to get to the figure of your monthly expenses. Your monthly salary must be able to cover these expenses. Take into consideration the portion of savings you will be comfortable drawing in the early stages of the business.
Paying yourself based on your worth
There is a simple way to determine your worth in the company or the value you add to the business. If you were an employee, given your experience and skills, what would you be typically paid by an employer? Keep in mind the industry trends and competitors to get a clearer idea. You can also conduct research to find out what the employers of similar firms are paying themselves. While none of these methods include the additional work or risk you will be taking on as the owner of the business, you can boost the market-worth based salary by 3%-5%. Determining your salary and narrowing down on an accurate figure can be tricky.
Irrespective of the theory you decide to use, make sure you keep in mind above tips to make it is easier for you to manage your money. The initial stages of a startup often lead to the owners living frugally. Financial stability in your business can take longer than you expect and living sparingly in the initial years can pay off in the long run. Do not overlook reinvesting in your business. Brian Honigman recommends founders to take 20% of the profits and reinvest 80% as this ratio seems fair to most investors and gives the founders enough reward that prevent burnout.
Finally, re-evaluate your expenses and profits every six months. As exciting as it is to run your
business, it is essential to be prepared for the future. This way you’ll be able to focus on the
opportunities to scale your company other than worrying about your own financial stability.