Determining how much to pay yourself is very important in the earliest stages of the MSP startup. Forecasting your budgets should always include how much you pay yourself as an owner.
Let’s talk about owner compensation a little bit and what form it takes. To start off with I’ll share with you how I paid myself as an MSP.
The things I understood about taxes led me to conclude that I don’t want to owe a bunch at the end of the year. If I was doing withholding, I could get a ratio of my pay going to pay tax based on tax tables. Surely if I did that, I would pay plenty of tax up front and not have as much to pay at the end of the year.
That turned out to be a terrible idea. In the eyes of the IRS at the time, I couldn’t be a W2 employee of my LLC business. Then all the money I had hung up by submitting payroll tax got held up, and my tax bill ended up being considerably more than if I’d done things properly.
Here’s the tax caveat for you right now. The way I structured my business, with the help of my accountant, served several needs. I had goals to manage this business in a way that may or may not work for you.
What I can tell you are some things to talk to your accountant about. Some accountants like mine, are fantastic at telling me stuff I didn’t know. They would propose an idea and if I didn’t get it, extrapolate the benefits out, because it’s always a long game. Some of these tax topics should be:
- How much tax do you want to prepare to pay at the end of the year?
- How important is it to you to have social security to fall back on in retirement?
- What structure is your business in? LLC? Sole prop? Is that helping you now?
- Are you making enough revenue to consider a change in business structure?
- Do you plan on offering a retirement plan?
These questions will probably lead to a lot more, which is good. Half the goal of doing this is to find the best question to ask.
Most business owners take from the money left after paying the bills. In my case, for tax purposes, it’s assumed that I get all the business profit, and I’m taxed on that rather than the business being taxed for that. Again, your mileage may vary, the numbers for us work out well for that strategy.
The problem with the typical compensation is that the owner doesn’t really have a budget for compensation. They just get the scraps, and even that prospect is not exciting, especially in the early days of an MSP startup.
Strategy to Consider
First of all, getting the leftover scraps is no good at all. You’re the owner, and you probably will be putting in more blood, sweat and tears than anyone else will. Not compensating yourself properly can add to some serious issues down the road.
There is a strategy out there called Profit First, which I will let you research. Some business owners use it completely and some think it is foolish. The essential concept is that the first checks that come in during the month go right to you. Once you have paid yourself, you can start paying the bills.
Personally, I took a slightly different road in my business. What I did is take 1% of every check or payment that comes in and put that in a savings account. I didn’t pay myself from this account, but I used it to slowly grow a rainy-day fund. This fund would help bridge the gap on bad months. Months where I might have added an employee when I wasn’t financially ready. Paid some bills when a few customers fell behind.
How does that relate to getting owner compensation? No matter how you slice it, your compensation could be what is first on the chopping block. Creating the first line of defense, a buffer between your business costs and you getting compensation is essential.
The second buffer of course is budgeting how much to pay yourself up front. You should be able to forecast your revenue and your costs. Use that to estimate how much you’ll be able to afford to pay yourself.
There’s always going to be some reinvestment into the business as well. We can’t deplete the bank accounts every month so you will want to budget in for some things you want to do in your business later. For example, there’s plenty of advice out there that 15% of your revenue should go to marketing. That’s a huge chunk, and in the early days of an MSP startup, it’s not much. If you can start setting aside what you can for that, leaving it in the bank, you’ll be able to get that benefit sooner.
Startup Ups and Downs
Many things are unknowable when you get your business started. Great things and not so great things can happen. The purpose of planning is to get some rules in place on how you’re going to handle these events. The rules are designed to help keep the business going as long as possible, and secondarily keep you compensated. Without you the business cannot succeed. Your well-being and success are tied directly to that of the business. Take good care of both by planning well.
You may be forced to go off track at some point, that 1% can’t go in savings, you will have to simply not be paid for a while. We’ve all been there. On 3 separate occasions, I had to forego my compensation. The key is to determine what happened to cause a misstep and make the necessary changes to avoid that in the future.
This article on how much to pay yourself is one of the most important to me, and I feel strongly that many owners overlook this. You are taking on a great enterprise that few would dare. Get your just rewards from that where you can and always plan to be rewarded in the future.
Thank you for reading this! As always, if you have questions about compensation or planning for it, please do reach out. Compensation should be a big part of when you start pricing your services. Make sure you use the tools out there to help you ensure you get paid what you deserve!