Money is often not talked about in the online space – and that causes confusion and misconceptions.
So to combat that, Jordan Schanda King and I get completely transparent talking about money on the Easy Scaling Podcast. In the episode, we discuss what people mean when they talk about cash vs. sales, how much to pay yourself, how to maximize what you’re already making, and so much more. Check out the full episode here.
Talking About Money: Cash vs. Sales
In accounting, there are two different ways to track and report your income: on a cash basis or accrual basis.
Tracking “cash” means tracking all the money that actually goes into and out of your account. But “sales” means on an accrual basis. Any invoices you send out are considered sales, and so tracking only those invoices would be on an accrual basis.
From an accountant perspective, there is no right answer. Either works. From a transparency perspective, the most important thing is to remain consistent.
For example, you shouldn’t say that you had a 50k month because you invoiced out 50k in one month, and then say you had a 50k month the next month because you actually collected the funds on those invoices. That would be double dipping!
Whichever method you choose, be consistent and transparent in how you talk about your cash collections or your actual sales totals.
How Much to Pay Yourself
You don’t talk about your salary in the corporate world, so this can be a super confusing topic. How do you figure out how much to pay yourself?
First of all, you can’t just pay yourself what you WANT to pay yourself. There are some IRS rules* you need to follow and things you need to look at in terms of how your business runs (and that will change over time). But there are some ways you can and cannot pay yourself, depending on how you file your taxes (and be sure to talk to your qualified tax professional about this).
For example, if you file your business taxes on a Schedule C on Form 1040 as a sole proprietor, you cannot pay yourself on payroll with withholding taxes. This is a mistake I’ve seen multiple times, even from people who are professional tax preparers.
Second, you have to look at what stage your business is in. In the beginning, you aren’t going to pay yourself a consistent paycheck because you have a lot of upfront and unexpected costs. Instead of paying yourself, think of this as reinvesting in the business so it can grow.
Once you reach a plateau in your business, that’s when you can establish how much you can pay yourself.
When you’ve reached that stage, there’s two things to keep in mind:
- Consistency is key. Don’t pay yourself $10,000 one month, $5,000 another month, and $1,000 another month. Keep it consistent. Start at a reasonable amount that allows you to stay consistent and build from there.
- Don’t underpay OR overpay yourself, because then you’ll be underpaying or overpaying in payroll taxes and income taxes.
Distributions vs. Bonuses
There are ways to maximize what you’re already making by paying yourself in addition to your salary. You can do this using distributions and bonuses.
“Distributions” refers to money you can also take from the business that’s NOT an expense, but also not income to you… so you don’t have to pay additional income taxes on it. This is a huge benefit of being a business owner.
The catch? Your business has to have income in order to take a distribution (be sure to work closely with your qualified tax professional to ensure you’re not taking out more in distributions than what your business has accumulated in basis for you to take).
You can also consider giving yourself a bonus. You have a consistent paycheck, but on top of that, you can give bonuses quarterly, twice a year, or once a year (or honestly however works best for you business). That income is still subject to payroll taxes, and you don’t give bonuses until you know the business has made enough money to sustain the bonus; but it’s another way to increase your salary.
Example
If you’re struggling to get a handle on these ideas, let’s talk about a concrete example.
Let’s say you made $350,000 in revenue for 2022. After deducting all of your expenses (advertising, contractors, employee wages, etc.), you have $100,000 PROFIT. You can pay yourself $50,000 on payroll, which means you’ll have $50,000 taxable net income from the business.
So, you’ll still report $100,000 on your taxes; $50,000 will be taxed as your W-2 income, while the other $50,000 will be taxed as pass through income on your Form K-1 from the business.
Know Your Numbers
Okay, so money talk can be scary because no one’s talking about it. Want to know a secret about WHY no one’s talking about what they’re making?
Because they don’t actually know.
People think that money and taxes are scary, so it just falls to the bottom of the priority list. They don’t pay attention to their numbers, and often when businesses are new, the business owners DIY their taxes rather than pay someone to do it for them.
But it’s our jobs as business owners to know our business numbers, like your profit margins and losses (and if you want the fastest way to figure those out, I have that for you here!).
You have to know your accurate numbers in order to make timely and accurate business decisions, file taxes correctly, take appropriate distributions or bonuses, and more. It’s a trickle down effect. If that’s overwhelming for you, it’s a wise choice to hire a qualified tax professional – or at the very least, a bookkeeper – to help you keep track of and understand these numbers.
The Comparison Game
A huge part of what makes transparency with money scary is the comparison game.
You might look at other people and think, “Well, they look like they’re making X amount of money and I’m not yet… so am I doing things right in my business??”
I want to challenge you to stop comparing your business to someone else’s. You need to do what’s right for you, your family, your business, and your clients (while following the IRS rules, of course). Overall, there’s too much comparison out there.
You can do this by making sure you’re operating at a profit margin that works for you. For some people that might be 20%, and others it might be 50%, and it definitely depends on the industry. But you have to do what’s right for YOU.
The one person you CAN compete with? Yourself. Compete with what you made last month or last year, not what someone else made.
Want more? Check out the full conversation here.
*This is not tax advice for anyone reading or listening. I am not your tax professional. If you would like more information on working with our firm, you can download our Services Guide here.
