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Hello, I’m Sara, a Chartered Accountant who transitioned into running an online business. I understand just how daunting and confusing it can be to take the leap into self-employment. The questions, the uncertainties, and the steep learning curve are all challenges I’ve faced myself. Whether you’re in the early stages of planning to go self-employed, just dipping your toes into making money on your own terms, or already fully committed, this blog is dedicated to helping you every step of the way. Through detailed guides, expert tips, and practical advice, I aim to be your go-to resource. From mastering financial management and navigating tax obligations to setting up the foundations of your business, I’m here to provide you with the clarity and confidence you need to thrive in your self-employment journey.
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When you're employed, your employer decides how often you get paid and handles all your tax obligations. However, as a self-employed individual, you're in charge of determining how often and how much you pay yourself. So, where do you start? What are the tax implications of paying yourself a salary, and how should you manage the funds?
Many sole traders overlook the importance of paying themselves properly, despite the fact that one of the main reasons for becoming self-employed is to control your earnings. This oversight can lead to financial stress, unpaid personal bills, and unexpected tax liabilities. In the worst-case scenario, it might even drive you to consider returning to traditional employment for the stability of a regular paycheck.
In this guide, I'll help you establish a payment strategy that benefits you, maintains your business's financial health, and ensures you're prepared for tax obligations.
Table of Contents
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How to Pay Yourself as a Sole Trader
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Determining Your Salary
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Pay Yourself What Your Business Can Afford
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Pay Yourself What You Need
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Pay Yourself What You Would Earn in Employment
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How Often Should You Pay Yourself?
1. How to Pay Yourself as a Sole Trader
As a sole trader, the money remaining after covering business expenses and taxes is yours to keep. This amount is what you are taxed on, regardless of how much you actually withdraw. Your salary is not considered a business expense but rather drawings.
You have the flexibility to decide how much and how often to transfer money from your business account to your personal account. If you haven’t set up a separate business account, I recommend doing so. While it’s not legally required for sole traders, it simplifies financial management and tax preparation. For example, Starling is a popular choice among the self-employed.
2. Determining Your Salary
The amount you pay yourself should reflect both your personal needs and your business situation. Here are three approaches:
2.1 Pay Yourself What Your Business Can Afford
In the early stages of your business, you might face low sales or high start-up costs, leaving little room for a substantial salary. Some sole traders choose to forego a salary initially and treat their time as an investment. This is manageable if you have personal savings or alternative income, but if not, avoid stretching your finances too thin as it could impact your credit rating.
Instead, consider paying yourself a salary that consumes most of your business profits. Ensure you set aside enough to cover your tax bill since drawings are not a business expense.
2.2 Pay Yourself What You Need
You can choose to pay yourself just enough to cover your personal expenses, such as rent, car payments, and groceries. This method is often chosen by those who:
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Are setting up a new business and prefer to invest their time rather than draw a salary.
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Wish to save money within the business rather than withdrawing it all.
2.3 Pay Yourself What You Would Earn in Employment
Alternatively, you can pay yourself a salary comparable to what you would earn if employed elsewhere. This approach ensures fair compensation for your work while allowing you to reinvest any remaining profits into your business.
Regardless of the method you choose, keep your business's well-being in mind. Avoid undermining the enterprise that generates your income. Create a business budget to project your earnings and determine a realistic salary for yourself.
3. How Often Should You Pay Yourself?
The frequency of your payments is up to you, but setting a regular payment schedule simplifies both your business and personal finances. It’s more effective to receive a consistent 'salary' rather than withdrawing funds sporadically from your business account. This approach avoids confusion and helps maintain a clear view of your financial status.
Determine a salary that covers your personal expenses and builds savings, and pay yourself on a fixed date, similar to a regular employment paycheck. If your business cannot support this salary, consider strategies to boost sales, reduce costs, or temporarily lower your salary.