How to Pay Yourself: A Guide for Every Business Structure

Starting your own business is a thrilling endeavor, but understanding how to pay yourself from your new venture can take time and effort for new business owners. The method you choose to compensate yourself varies significantly based on the structure of your business— whether it's a sole proprietorship, partnership, LLC, S corporation, or C corporation.

Each business entity type has unique implications for taxes and financial planning, making it crucial to understand the best approach for your specific situation. This guide will walk you through the various methods of paying yourself, ensuring you make informed decisions for your type of business that benefit your personal and business finances.

Sole Proprietorship

As a sole proprietor, you are the business. You don't receive a salary or wages. Instead, you take an "owner's draw" from your profits. You can transfer money from the business account to your personal account as needed.

The amount you draw is subject to self-employment taxes, which cover Social Security and Medicare. It's essential to keep detailed records of these transactions to avoid issues during tax time.

Partnership

Profits are typically distributed according to the terms of the partnership agreement. Partners do not receive a salary but take distributions like a sole proprietor's draw.

These distributions are reported on the partners' personal tax returns and are subject to self-employment taxes. Each partner pays taxes on their share of the profits, regardless of how much money they withdraw from the business.

Limited Liability Company (LLC)

LLCs offer flexibility in paying yourself, depending on whether the LLC is a single-member or multi-member entity or has decided to be taxed as an S corporation. In a single-member LLC, you can take a draw similar to a sole proprietor.

For multi-member LLCs, distributions work like a partnership. However, if an LLC elects S corporation status, you must pay yourself a reasonable salary as an employee and can also take distributions of profits. The salary is subject to payroll taxes, while distributions are not, making this an attractive option for tax planning.

S Corporation

In an S corporation, you must pay yourself a reasonable salary for your work, subject to payroll taxes. Beyond this salary, you can take additional distributions of the company's profits.

These distributions are not subject to payroll taxes, providing potential tax savings. However, the IRS scrutinizes S Corp salaries to ensure they are reasonable and not artificially low to avoid payroll taxes.

C Corporation

In a C corporation, you pay yourself as a regular employee, receiving a salary subject to income tax withholding and payroll taxes. Additionally, you may receive dividends from the company's profits.

Unlike distributions in other structures, dividends in a C corporation are taxed twice— first at the corporate level and then again at the individual level. This "double taxation" is a significant consideration when deciding on a C corporation structure.

Choosing the Right Structure

When deciding how to pay yourself, it's essential to consider each business structure's tax implications and administrative requirements. Consulting with a tax professional can help you navigate these complexities and choose the best approach for your situation.

Proper planning ensures compliance with tax laws and can help maximize your take-home pay while minimizing your tax burden.

Optimizing Your Self Pay Strategy

Paying yourself from your business varies by structure and tax rules. From sole proprietorship draws to C corp salaries and dividends, each method has its perks and challenges. Understand these options to optimize your finances and keep your business running smoothly.

For more financial planning ideas for your business, learn How to Open a Business Bank Account and the Differences Between Obtaining a Business Credit Card and a Line of Credit.