The Right Way to Pay Yourself a Salary

Making money from your eCommerce business is one thing, but paying yourself a salary is an entirely different matter. Here are the questions you need to ask to decide whether to reinvest into the business or pay yourself and set it aside.

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(With your hosts Andrew Youderian of eCommerceFuel.com and Bill D’Alessandro of RebelCEO.com)

Andrew: Hey, guys. It’s Andrew here and welcome to the eCommerceFuel Podcast. Thank you so much for tuning in today to the show. And today, we’re doing a listener request topic, something we got an email about salaries and paying yourself. When do you take a salary? Should you take a salary? How much should it be? How do you figure out how much to reinvest in your business versus paying yourself out and set aside on those Swiss bank accounts? And joining me to tackle the issue, a man much like Scrooge McDuck, loves swimming in seas of cash he pulls out of his business, Mr. Bill D’Alessandro from RebelCEO.com. Do you remember that show?

Bill: I do love that. Do I remember Scrooge McDuck? Yeah, definitely. Duck Tales, it’s a great show.

Andrew: Yeah, absolutely, man.

Bill: I don’t think you’re supposed to root for Scrooge, though.

Andrew: Oh, I’m not rooting for him. You’re my nemesis here that’s why I’m making a comparison.

Bill: Oh.

Andrew: But actually we have an interesting topic, and I got a request on this, not something we’ve done before so I thought it’d be fun to tackle. And I think we’ll go ahead. Not a whole lot more to say apart from just diving in right now to the topic.

Early On, Pay Yourself As Little As Possible

Andrew: So a number of things to talk about, Bill, but I think pretty safe to say when we’re thinking about salaries, how much to plug to your business, all this kind of stuff. I’m guessing most people wouldn’t dispute that early on when you’re getting started ramping things up you probably want to pay yourself as little as possible. Nothing worse than having a business where you’re sucking every last dime of money you should be using to grow the business in the early days out for who knows what.

Bill: Yeah, I think you mentioned this to me a little bit earlier, but I think it really comes back to opportunity costs of that money. Every dollar you take out of the business is a dollar you could’ve spent growing the business. It’s very easy to run your business dry in the early days when there’s just not much extra money, and it gets even worse if you’ve got partners, you’ve got two, three, four people wanting to take money out of the business. It can be really hard. You can end up starving the business in order to pay your salary.

When To Start Paying Yourself

Andrew: So I think I we’re in a consensus there. When do you start paying yourself a salary? From your perspective, is there a specific point? Is it more of a judgment call? Or what kind of things can you look at for benchmarks that you can start saying, “Okay, now it’s time. I think the business is healthy enough. It’s on a good enough trajectory where I can start taking a consistent salary?”

Bill: I think this topic ties in also really nicely to the other episode we did about when to quit your job and focus full-time on your eCommerce business because that was my experience. I started my business while I was still full-time self-employed elsewhere. And that allowed me essentially to have them pay my salary while I started my company, which was great because I could plow every dollar back into the business in the early days, which is really what I think you should be doing. I think if you’re starting a business you should go into it just expecting not to make a dime for 6 to 12 months.

Andrew: Yeah.

Bill: Would you say you agree with that?

Andrew: Yeah, I think that’s a good metric.

Bill: And I would say the corollary to that is you probably should have 6 to 12 months of expenses and money saved up in the bank before you start the business.

Andrew: Yeah, I was thinking through this, and in terms of when you could maybe potentially start thinking about pulling money out where you’re spending on non-business activities, etc., etc., three big things. One, I think, is if you don’t have any no-brainer positive ROI opportunities laying around. And the one that comes to mind most easily for me is ad spends. If you’ve got a crazy profitable ad campaign where you know you put in one dollar on the ad spy side and it turns into $2 of profit. Those things don’t last forever and, a lot of times, are most evident when you’re smaller and getting ramped up. Don’t leave those there. Make sure you’re putting in if you’ve got something like that, make sure you’re spending it there.

The second one, if you feel confident you’re getting some kind of organic traction along with you being able to push the business along with ad spend or other paid marketing channels. I think that’s a good sign that you’ve kind of moved out of just the phase where, one, it’s validated. The idea is validated. And, two, you’re building a little mini momentum. I think that’s a good sign before you start taking money. And the third one, I think, is that you have at least as much to reinvest in the business as you’re taking a salary. So whatever salary you’re taking make sure you’re leaving at least that much, at least when you first start to, that you have the same amount to reinvest in the business. Those are some kind of some of the rough smell tests that I came up with. What do you think? Do you think those are reasonable or off base?

Bill: Yeah, actually I think that’s a really interesting rule of thumb to essentially pay the business every dollar for every dollar that you pay yourself, kind of a one-to-one reinvestment, how much you’re taking out of the business ratio. I think that’s a cool rule of thumb, especially in the early days. I also like your point about positive ROI opportunities because to this day it kills me to pay myself from my business. Because the business is growing, I know that every dollar I take out on the business and spend on myself I could’ve spent in the business. Or even if I take it out of the business and I invest it in the stock market. I look at, besides, our Amazon and Alibaba bet, which I’m still, even though it’s over, I’m not gonna stop razzing about it.

Even though like, yeah, you make a great return. Let’s say you have a great year in the stock market. You make 20%. So a dollar that you took out of your business, invest in the stock market it makes 20% if you left that dollar in your business, you can conceivably double your business in a year. Or think about, for example, the ROI inventory. If you buy something for 50 cents and sell it for a dollar, you have invested that dollar and doubled it in a year, or probably faster. You probably turn your inventory a couple of times a year. So I think for probably a lot of small ecommerce store owners the best investment you have access to is probably yourself and your business.

Andrew: Oh, hands down, without a doubt, if you’re growing business you’re going to get so much more than in the market. It’s funny, you saying that reminds me, Warren Buffett in The Snowball, it’s like the biography of his life. I think he bought a house for his family when he was still successful but much earlier in his career, and it was some crazy, I don’t know, $200,000 house. A nice house, not an egregiously nice house, but it was so hard for him even though he was worth millions and millions, if not hundreds of millions, at that time for him to do that because he didn’t look at it as $200,000. He looked at it as $5 million that he was giving up in the long run, because that’s how he views everything, is through this lens of investing and compounding. And so the same thing kind of applies to your business.

Bill: I feel that same way. I just bought a house six months ago and, still, sometimes I pull in that driveway and I look at the house and I’m like, “Man, if I sold this house I could buy a business. I could take this money and reinvest it in an asset.” Yeah, real estate is an asset that grows but not like an eCommerce business. So just keep in mind, I think, when you’re paying yourself, what you’re giving up, the opportunity cost of that money. Obviously, you’ve got to live, but I have, in the early days and even still, leave as many pennies in the business as I possibly can.

Benefits Behind A Consistent Salary

Andrew: Yeah, Bill, I think that’s an awesome point. And I’ll be bringing up a few counterpoints, maybe playing Devil’s advocate a little bit in terms reinvesting too much into your business, but for the most part, it definitely has a ton of merit. Quickly, I want to talk about some of the benefits of paying yourself a consistent salary. Why should you do that versus just pulling money out of your business Helter Skelter? Maybe some months you do, some months you don’t, differing degrees of the amount. I think there are some real advantages to doing that consistently the same amount every month. First of all, consistency, of course, from your perspective as an individual, for your bills, for your saving goals. You gotta have some kind of consistency in your life to plan around.

But even probably more importantly is the realism on the P&L and the income statement side. Like probably the biggest expense we have in our businesses is ourselves. And early on, of course, you don’t need to have it. You have to be a little rational, paying yourself a little salary against the income of your business early on. That’s how startups work and early stage companies work. But if you’re two, three years into your business, and you can’t take a reasonable salary, and at least have the business still be barely in the black, or ideally be able to take a salary and still have it make money, argh, then you have to ask yourself, like, “Is it a viable business?” And I think that reality check is one of the great reasons why taking a salary can be helpful.

Bill: Yeah, I think so. With the caveat unless you’re explosively growing. If your business is doing the same year-over-year and you still can’t pay yourself, you need to be asking yourself some tough questions. But if it’s the type of thing where your business is explosively growing, and you need every penny to buy inventory just hanging on to the rocket ship and so you’ve been underpaying yourself, that’s very different.

Andrew: Right. Agree. And that kind of goes back to the point, though, if you have a very positive ROI opportunity, and I think you’re probably talking about cash flow crunch. Is that kind of what you’re referring to, Bill?

Bill: Yeah, well, that’s what’s happened to me, honestly, over the past couple of years. The business has been growing so quickly that we have to buy so much inventory that every spare dollar…if I were to pay myself an extravagant salary, I would be literally putting it on a line of credit.

Andrew: There’s nothing wrong with that.

Bill: You know, I just kind of go, “Hey, I’ll pay myself a little bit less this year so I don’t have to borrow the money to grow the business so we don’t have a cash flow crunch.” And I just view it as this is my saving is by reinvesting in the business because the equity value of the business is exploding.

Andrew: Yeah, no, that’s a great point. Agreed. Another reason I think it can be really beneficial to pay yourself a consistent salary is it gives you a really clean separation between your business financials and your personal financials. And I think we can probably do a whole episode on this, but if you’ve got a salary coming out into your personal bank account where all of your personal transactions takes place and all of your business funds stay in your business account, that salary makes it really easy. It makes the temptation less to dip into your business for personal things. And, man, that’s a slippery slope. Once you start doing that, it can get ugly.

Bill: Absolutely. There’s also, in the early days, I was doing exactly that. I was not paying myself anything regular and I would just transfer money into my personal bank account when I needed some money so I didn’t have any… and then I wouldn’t know how much I made that year until the end of the year when I saw how much I had taken out of the business. But now I found it’s very hard for me mentally, and I don’t know if this is just me or if you feel the same way, it’s very hard for me to juggle more than one income statement in my head. And your personal life is an income statement as well. So I was having trouble paying an appropriate amount of attention to my personal expenses because I was focusing so much on the P&L of the business that my personal finances were just basically neglected.

I didn’t have a budget. I didn’t know how much I was spending. I was just taking money out of the business, spending on my expenses and that was it. I wasn’t watching my personal expenses closely. And so when it was so willy-nilly, I couldn’t hold both of those things in my head at the same time. So now I’ve started paying myself a personal salary, so my personal expenses are much more on autopilot. I have my mortgage every month. I know how much I’ve spent on bars and food, etc., etc., and I know my salary more than covers that, and it’s allowed me to not think about my personal finances and to know that they’re taken care of because there is a certain amount that comes in every month and I’m confident that it more than covers all the numbers that go out. And so then I can focus exclusively on the business P&L without trying to juggle the personal P&L at the same time.

Andrew: How much more is the bars and food expense than your mortgage line item in terms of percentage? Double? Triple?

Bill: I think this might be a little different for the married listeners versus the single listeners, but the bars and food is an important expense category. You like how that was the next one after mortgage that I immediately went to?

Andrew: It’s pretty accurate.

Bill: Yeah.

Andrew: I’m the same way, man. I’ll buy new pants once every five years but, yeah, the food line item for me is a big one, eating out.

Bill: Yup.

Andrew: Another benefit to having a salary, and this is a little more on the tax side, is if you are an S Corp. I’ve got to be a little careful here, I think, Bill. I think we had an episode in the past when we mentioned some things about taxes, and I had an accountant write in and say, “Man, hey, whoa, whoa, whoa. Be careful what you say. You guys missed the point of a couple of things here.” And I think he was probably right. So I think I’m getting this right but hopefully I am. If I’m not forgive me. But you’re an S Corp, I believe, Bill, right?

Bill: No, actually.

Andrew: Oh, you’re not.

Bill: Well, actually, I’m not sure. We’ve got to have my accountant in for that one. Now I don’t want to say anything with definitiveness. I don’t know. Maybe we are an S Corp. I know we’re an LLC, but I don’t know if we make the election.

Andrew: Got it. So for us, we’re set up as an S Corp, and if you pay yourself, one of the big if not the largest reasons people like to do an S Corp is you can take a salary, pay yourself a salary and from those earnings, let’s say your business for the sake of argument makes $100,000, you can pay yourself a $50,000 salary which is going to be taxed just like any other salary. But the $50,000 extra that you don’t pay yourself a salary but that the business still makes that’s left over, I don’t believe you have to pay Social Security and Medicaid and Medicare on those. So you could save 8.5% or something. So it’s definitely a very above board, very common way to also save on your taxes while taking a salary, but you’ve got to set it up as a regular salary.

Bill: Yeah, you’ve got to get a W2 in order to do that.

Paying Yourself Versus Re-Investing Into Your Business

Andrew: Exactly. So, Bill, we can circle back around quickly to how much…we were talking at the very top about investing in your business is such a good opportunity. It’s probably the best avenue we as entrepreneurs have to make our money grow because stock market, even these other options, especially you and I. You and I came from the finance world, and I know I’ve been a little more disillusioned about the stock market, especially in the last 10 years, or 15 years when so much stuff was going on. But thinking through, how much to pay yourself versus reinvest? And, well, let me throw this out there. How easy do you think it is for people to over-invest in their business? Maybe I can start with that.

Bill: Oh, that’s a good question. Maybe I’ll frame it as the way I’ve thought about it for the past couple of years, and the way I thought about it when I was getting started. When I was getting started in business, and for the first…really, I still think about it this way. I view, as you said, the best investment I can make is an investment in my business. So why would I take extra money out of the business in order to invest it in a low-return asset class, a comparatively low-return asset class like stocks, or potentially even like real estate if you want to go really hard line on it? Why would you take your money out of your business to invest in anything that is not your business? And, of course, the obvious answer is risk and diversification.

So I think there’s a balance there. It’s probably prudent to take money out and invest it in other asset classes in case something happens to your business, you still have a nest-egg to fall back on. But at the same time, especially in the early days to me, I said, “I need to…” I just paid myself enough for the expenses, and I wasn’t saving any money, but I said, “Hey, the money, like the equity in the business is my savings plan.” Now the money that I’m “putting away” is the growth in the business, and so I didn’t feel as bad about not paying myself enough to put away money for later because I knew the business was growing. Obviously, that’s risky because if the business…the equivalent of that would be having a job and taking all of your retirement money investing in a single stock.

Andrew: Right. You work for Enron, it all goes in.

Bill: Right, exactly.

Andrew: Not to compare you to Enron.

Bill: Well, yeah, that was the one you picked, really? How about Coca-Cola or Procter & Gamble?

Andrew: This is the last episode Bill will ever do with me.

Bill: Right. But, you know, you work at Procter & Gamble, you take all your money out, you invest in Procter & Gamble stock, something happens and guess what? You’re fired and your investment portfolio is worthless. That’s essentially the equivalent of what we’re talking about because your job and your investments are your private company, so it is risky. So at some point you probably should take some money out and diversify, but the risk is what we signed up for as entrepreneurs, especially in the early years.

Andrew: Yeah, and I’m gonna agree with you. I tend to have a little kitty of stock market money that I invest. I think I’ve touched on this in some past episodes, but the fund the nursing home plan in case all else falls apart. But I think, from my perspective, I was coming at it too in my mind from sometimes you do have great opportunities to invest in your business, especially if it’s growing. But, like Paul Lepa at ECF Live, he talked about, he said, “Sometimes you have a business that grows to the upper limit, and no matter what you’re doing you run out of good places to put your money in.” And I think there is this, as entrepreneurs, there’s this need to put money to work.

If you’ve got cash sitting there, you almost feel guilty not using it, and I think sometimes I’ve been guilty, and I know the temptation is there to put it to work at some optimal ways, where you don’t necessarily know something is going to work, and you don’t necessarily know if it’s going to produce a positive ROI. And, of course, a lot of things that are worth investing in you can’t determine that ahead of time. Not everything is an ad campaign that just prints money, for one dollar you put in you get five back. But it’s tough because I think there’s a big judgment call there where sometimes the right move is to realize, “Hey, this is probably not an optimal use of my money,” and not being afraid of having a little bit of cash on the sidelines if you don’t have a way where you feel really good about investing it.

Bill: That’s a great point. And Paul was great in his talk at eCommerceFuel Live, talking about the different stages of business. And if you are in a more stable phase of business, and it becomes time to harvest the business, pay yourself a lot of money, and maybe you don’t have a ton of awesome opportunities to reinvest in. But if your business is growing, I mean, if you’re seeing 50-100% or more growth every year, I would be paying yourself, cover your expenses, and leave the rest in the business.

Andrew: So a couple of closing thoughts, maybe just things that if people are going to start setting up a salary for themselves. One, Bill, this just came up, just in the moment, but you mentioned that your personal income statement, having something that I had been guilty of the last year or so, neglecting it a little bit, just not knowing where money is going. Have you heard of Personal Capital? Have you used them before?

Bill: I’m on their drip campaign. They send me emails. I don’t know how I got on them.

Andrew: Awesome.

Bill: So I’ve heard of them.

Andrew: They’re cool. You should check them out. They’ve got a great dashboard and the backend for the sales pitch is an investment service they have. But they’ve got a great free dashboard that pulls in all of your personal accounts, all of your spending. It tracks your net worth so you can see how your net worth is doing daily. It’s interesting. So if you’re looking for a way to be able to get a little more on top of that it’s a great, great tool. For payroll, if you’re looking to setup payroll for yourself or for your team, I use SurePayroll, Ascent Payroll, which actually just changed its name. I can’t remember what it’s called now. Do you remember?

Bill: Gusto.

Andrew: Gusto.

Bill: I use them on payroll, too.

Andrew: Oh, okay. How do you like them?

Bill: I love them. It’s fantastic. We had some snafus, but they were not their fault. Colorado changed my tax rates on me for no reason. But other than that, I love their payroll. They’ve been fantastic. Totally automated. They integrate with a bunch of stuff which is really nice. It’s like if you have hourly employees, there’s a bunch of time-tracking apps that will automatically push the hours back in the CP, so it’s nice.

Andrew: Yeah, I would love to use them but, unfortunately, Montana was not one of their states that they support. I couldn’t believe it. With all million of us here in the U.S., they left us.

Bill: I was very lucky because I was in Colorado at the time, and Colorado is one of their very early states.

Andrew: Ah, nice.

Bill: But they’ve expanded dramatically now. They’re, I think, in probably 30 plus states now.

Andrew: And then, finally, we’ll link up to an article in the community, the eCommerceFuel community, that talks about S Corps, how people are setup with those, and what are reasonable salaries because we didn’t even get into that, Bill. But with the S Corp, the IRS says that you have to pay yourself a reasonable salary, and that’s tricky because the lower your salary the more you save in taxes because you don’t have to pay on what you don’t take as a salary. You pay a lower tax rate. So there’s an incentive of paying yourself just peanuts. But if the IRS comes in and you’re paying yourself $3 an hour to you run a $10 million eCommerce company, they tend to have a problem with that. So we have a discussion where he talks about that just a little bit. Bill, a pleasure is always. If you want to hook me up on your payroll, let me know. I’ll send everything over you need.

Bill: Yeah, great. I’m going to put you to work, man.

Andrew: Well, I guess that’s the other half of the equation there.

Bill: That’s the other half, yes.

Andrew: Hey, fun as always. Thanks, man.

Bill: Sure thing.

Andrew: That’s going to do it for this week. If you enjoyed the episode, make sure to check out the eCommerceFuel private forum, a vetted community exclusively for six and seven figures store owners. With over 600 experienced members and thousands of monthly comments, it’s the best place online to connect with and learn from other successful store owners to help you grow your business. To learn more and apply, visit eCommerceFuel.com/forum.

What Was Mentioned

Photo: Flickr/Kheel Center

Post tagged in: Operations, Podcast

8 Comments

  1. Thanks for another great episode as always. Also, I enjoyed the webinar you did with Steve last night, very informative and great to chat with you guys. Hope you do it again sometime soon!

    Marc-
    Charlotte, NC

  2. Just a quick note… the title of this post should have been “The right WHEN to pay yourself a salary.”

    I clicked on it thinking it was going to be about how I should pay myself. As in, through W-2 or owner’s compensation, dividends…etc…etc. That’s the “way” someone pays themselves. 😉

    Otherwise, great article. Even if it didn’t address my questions. (You spoke on it a bit but only to say “you shouldn’t take this advice.” Ha!

    Cheerios!

  3. Might also want to check out The Web Equity Show with Justin Cooke and Ace Chapman Ep 14 : A CPA’s Take On Buying And Selling Online Businesses.

    The CPA, Mario Lucibello, defined a reasonable salary as follows: what would it cost you to hire someone else to replace you? If you’re in the ballpark of that number, apparently you’ll be OK.

    So if it costs you 50k to hire someone to replace you, then 40k is most likely a reasonable amount to pay yourself but 20k is not.

    1. Good points, thanks GB. And love the Web Equity Show with Justin and Ace – great stuff they put out.

  4. I’m generally a big fan and have learned a huge amount from you and your guests. This one felt like coasting, which is ok now and again, but who wants to hear what Bill thinks about payment strategies when he doesn’t know if he’s an S-Corp or an LLC?
    Again, normally I’m taking notes. This one tested your credibility!

  5. Hey Andrew and Bill,

    this is a great podcast! I totally agree with the idea of sticking with your day job in the beginning of setting up a business so you can take your salary from there without putting financial pressure on your new venture.

    This is how I kicked off my online business and it worked perfectly for me. I was able to quit my full time job at beginning of this year and it’s been a much smoother ride thanks to getting my business income stable before drawing a salary from my business.