How to Pay Yourself as a Small Business Owner

An important function of running your small business is determining how to pay yourself. Depending on your business structure, you can pay yourself a salary, take draws from your profits, or both. That may seem simple enough on paper, but choosing the most tax-efficient payment method isn't always so clear-cut.

Small business owners weighing a salary versus an owner's draw for the first time should use this guide to learn how to pay yourself by entity type, the calculation method, and costly mistakes to avoid.

Ways to pay yourself as a business owner

You can pay yourself in two ways: by salary or owner's draw.

With a salary, you would set your wage and be paid that amount each period. You deduct taxes upfront, which is a more stable choice since it’s recurring and predictable.

In an owner’s draw, you transfer money from the business to your personal account during regular intervals or only when needed. It gives greater flexibility than a salary by allowing you to pay yourself more during profitable periods and to take a smaller draw as needed during slower periods. Successful business owners ensure tax considerations are included in their compensation plan.

Your business’s classification plays a major role in which method you use.

Owner’s Draw vs. Salary

There are pros and cons to embracing a salary or owner's draw. Draws are not subject to withholding at the time of transfer, but the full profit is still subject to self-employment tax. With a salary, it is a deductible business expense but requires the employer share of FICA.

Business owners struggling with their decision should use this handy comparison to establish which is best for their situation.

How to Calculate How Much to Pay Yourself

Follow these steps to determine how to pay yourself as a business owner.

1. When starting out, calculate and base pay on personal living expenses.

2. Evaluate business cash flow for the next six months to a year to ensure it has a buffer. This is critically important before setting an amount.

3. Research market rates and decide on a fixed or a percentage method.

4. Shift to a percentage of net profit (30% to 50%) as your business grows.

Use Bureau of Labor Statistics (BLS) wage data as a reliable benchmarking source as part of your reasonable salary research.

How to Pay Yourself as an S Corp or C Corp

If you form your business as an S corp or C corp, you should pay yourself a reasonable salary. Typically, this is the equivalent of what professionals in your industry earn for comparable work.

Consider factors when determining your salary (and that of your stakeholders), including:

• Compensation agreements

• Dividend history

• Duties and responsibilities

• Payments to non-shareholder employees

• Time and effort devoted to the business

• Training and experience

• What comparable businesses pay for similar services

S Corp Owners

S corp owners can take draws on top of their reasonable salary. However, they cannot solely take draws in place of a salary. A reasonable salary is subject to the 15.3% self-employment tax that funds Social Security and Medicare taxes, while distributions aren't. This is where S corp owners can significantly reduce their tax burdens.

If an S corp owner took a $100,000 salary without distributions, they would owe roughly $14,130 in self-employment tax. If they determined $60,000 as a reasonable salary and took the remaining $40,000 in distributions, they would owe around $8,478 in SE tax. Most small business owners benefit from the significant tax savings of the S corp status.

While there is no official formula, the IRS considers these reasonable salary factors:

• Duties and responsibilities

• Training and experience

• Time and effort devoted to the business

• Dividend history

• Comparable pay at similar businesses

C Corp Owners

Similarly, C corp owners pay themselves a salary comparable to their industry peers. They also have the option to pay themselves more on top of their regular salary in the form of a dividend payment, not a draw.

C corps face double taxation, meaning the corporation pays a federal tax on its earnings. Then, the individual shareholders are taxed at an individual rate on their personal tax returns. While those tax implications may seem like a major downside of this entity, C corporations can reinvest their profits tax-free at the corporate level, deferring shareholder dividend taxes until funds are distributed.

How to Pay Yourself as a Sole Proprietorship, LLC, or Partnership

Many business owners, including sole proprietors, LLCs, and partnerships, typically use the owner’s draw method.

Sole Proprietorships and Single-Member LLCs

For sole proprietors, equity balance increases with capital contributions and business profits, and it reduces when the business experiences a loss, or the owner/partner takes their draw.

How an LLC owner opts to be paid depends on whether the LLC functions as a sole proprietorship, partnership, or corporation. For a single-member (sole proprietor) LLC, the owner and the business are viewed as a single entity, and the LLC’s profits are classified as personal income, not business income.

Sole proprietorships and single-member LLCs report income and expenses on Schedule C (Form 1040), Profit or Loss from Business (Sole Proprietorship).

Partnerships and Multi-Member LLCs

For partnerships and multi-member LLCs, profits are reported to the IRS, but the business itself isn’t taxed. Partners take draws based on ownership percentage or what's defined in the operating agreement. This can include guaranteed payments for compensation that isn't tied to profit. These payments risk straining cash flow during periods of low revenue.

Partnerships distribute Schedule K-1 informational returns by March 15th that report a partner's share of income, losses, deductions, and credits. Partners use this information to complete their personal income tax returns.

If an LLC opts to be treated as an S corp or C corp for tax purposes, it will follow the salary method.

Common Mistakes to Avoid When Paying Yourself

Avoid these common mistakes when determining how to compensate yourself:

• Not paying yourself at all, especially once you move out of the startup phase.

• Mixing personal finances and business accounts instead of using a dedicated business bank account.

• Setting an S corp salary too low relative to distributions, which is one of the most audited issues in small business taxation.

• Forgetting to set aside money for quarterly estimated taxes when taking an owner's draw.

• Treating draws as informal "loans" without documentation, which the IRS can reclassify as wages or dividends, increasing your tax liability.

How much should I pay myself as a business owner?

Several factors decide the amount you should pay yourself as a business owner. It depends on how your business is structured, your state and industry, and business stage. Consider taking a smaller percentage of profit if you're in the startup phase, and scale toward 30% to 50% once your business is established.

Research comparable salaries using authoritative government sources like the BLS, browse guides, and speak to a tax professional for more advanced assistance.

Frequently Asked Questions

What is the most tax-efficient way to pay yourself?

For many small businesses, the most tax-efficient method is a combination of a reasonable W-2 salary and shareholder distributions by electing S corporation tax status. This strategy allows you to pay payroll taxes only on your base salary rather than your entire business income. The remaining profits can then be withdrawn as tax-advantaged distributions that are exempt from self-employment taxes.

Can I pay myself as a non-profit business owner?

Non-profit founders or directors cannot receive "profit" distributions because the organization has no owners, but you can receive a reasonable W-2 salary for managing the day-to-day operations. Your compensation must align with fair market value for similar roles in the non-profit sector. This ensures the organization maintains its 501(c)(3) tax-exempt status and avoids IRS penalties for what it deems to be excessive benefit transactions.

What is the average salary for a small business owner?

The average salary for a small business owner in the United States is roughly $62,000 per year. However, this figure fluctuates significantly depending on your industry, the geographic location, and the business revenue. Many owners also reinvest their earnings back into the company, which means personal W-2 compensation may be much lower than actual overall profitability.

What is the best way to pay yourself as a business owner?

The best way to pay yourself depends entirely on your legal and tax structure, though taking a fixed owner's draw is generally the simplest option for single-member LLCs and sole proprietorships. This approach involves transferring a set dollar amount from your business checking account to your personal one at regular intervals, like bi-weekly or monthly. The funds are not taxed when withdrawn, but you are responsible for making quarterly estimated tax payments on the net profits at the end of the year. We recommend setting aside between 25% and 30% of those funds for taxes.

Do I pay taxes on an owner's draw?

Owner's draws are not formally taxed at the time of withdrawal because the IRS does not classify them as earned wages. Instead, you pay income taxes and self-employment taxes on the overall net profit generated by your business. You are taxed on the total profit your company earns regardless of how much, or how little, of that profit you actually withdraw as a draw.

What is the difference between an owner's draw and a distribution?

An owner's draw refers to money taken out of unincorporated businesses or pass-through entities, such as a sole proprietorship or single-member LLC. A distribution specifically applies to corporate entities like S corporations or C corporations, representing a payout of profits to shareholders based on their ownership stake. While both terms involve transferring business funds to a personal account, distributions often carry stricter IRS payroll requirements depending on your tax elections.

Do LLC owners pay themselves a salary?

If your LLC is taxed as a sole proprietorship or partnership, you cannot take a traditional, taxable W-2 salary. You must take an owner's draw or guaranteed payment instead. However, if your LLC elects to be taxed as an S corporation, the IRS mandates that you must pay yourself a "reasonable salary" through a formal payroll system. Any surplus profits above this salary can be taken out as tax-free distributions.

How often should I pay myself?

It is highly recommended to pay yourself on a consistent, predictable schedule to help manage your personal budgeting. Think weekly, bi-weekly, or monthly. Before establishing this frequency, you must confirm that your business has adequate cash reserves and can comfortably cover operating expenses. Maintaining a regular payout routine also separates your business and personal finances, which simplifies both accounting and tax season.

What happens if my S corp salary is set too low?

If you intentionally set your S corp salary too low to avoid payroll taxes, the IRS can audit your business and classify your distributions as recharacterized wages. This triggers significant financial penalties, interest charges, and the loss of the tax benefits associated with your distributions. The IRS expects that you pay yourself a "reasonable salary" based on several business factors.

Building a Pay Strategy That Grows With Your Business

Now you know how business entity structure impacts how you will pay yourself, and the steps you must take to make that final determination. How a sole proprietor is paid differs greatly compared to an S corp owner. While there's no universal formula, expert tax support ensures your compensation is defensible in case the IRS ever has questions.

If you're ready to zero in on the best way to pay yourself as a small business owner, explore 1-800Accountant's tax advisory solution to see how year-round support makes a difference.