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How Small Businesses Are Affected by Minimum Wage

Adam Uzialko
Adam Uzialko

As minimum wages rise and big businesses offer employees more money, how can SMBs compete?

  • 29 states plus Washington, D.C., have a higher minimum wage than the federal minimum.
  • 42 cities have minimum wage rates that exceed their states' minimums.
  • Researchers say raising the minimum wage doesn't kill small businesses or reduce job opportunities.

If you compared the paychecks of workers from 1969 with the paychecks of 2019, you could be forgiven for thinking that the average employee makes much more money today. However, for decades, the purchasing power of the average American worker has been largely stagnant.

That could well be changing, with scattershot increases in the minimum wage throughout cities and states across the U.S. Many states have moderately increased their minimum wages, and some of the biggest cities have hiked their minimum wages as high as $15 per hour.

Even in cities where legislators are not raising the minimum wage, the realities of a tight labor market and the necessities of competition often place upward pressure on compensation as well. For example, retail giant Amazon announced its intention to raise wages for its entry-level employees last year. At the same time, the company launched a lobbying effort to push Washington, D.C., to raise the federal minimum wage. Small businesses are forced to consider doing the same to recruit much-needed talent for their open positions.

Small businesses find themselves in an environment where their largest expense – labor – is about to get larger. How are rising wages impacting small businesses, and what can they do to ensure they remain compliant with the law and competitive with larger companies?


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State and local minimum wage laws changing

Currently, 29 states plus D.C. have a minimum wage higher than the federally mandated minimum of $7.25 per hour. Twenty-seven states and D.C. have increased their wages since January 2014, meaning many businesses have had to adjust in recent history. D.C. has the highest minimum wage rate of $14 per hour, followed closely by California and Massachusetts, which both maintain a $12 hourly minimum wage.

Moreover, 42 cities nationwide have adopted their own minimum wage rates that are higher than their state's. The highest local minimum wage is in Emeryville, California, where employers are required to pay their workers $16.30 per hour. SeaTac, Washington, is a close second with a minimum wage of $16.09 per hour.

In these cities, where legislation has been enacted to mandate a minimum wage increase, small businesses have no choice but to comply with the law or face enforcement actions and lawsuits. [Is your small business looking for a better way to manage payroll? Check out our best picks for online payroll services.]

What minimum wage hikes mean for small businesses

It's not uncommon to hear that minimum wage increases have disastrous consequences, particularly for small businesses. However, economic research into the impact of minimum wage hikes on small businesses suggests that not only are increases not harmful, they might even be beneficial.

Research from the Fiscal Policy Institute examined three years of small business activity in states that increased the minimum wage above federal  standards as well as states that did not. These were some of the researchers' findings:

  • From 1998 to 2001, the number of small business establishments grew at a rate of 3.1% in states with higher minimum wages, compared with a rate of 1.6% in states with lower minimum wages.
  • Employment grew 1.5% more quickly in states with higher minimum wages.
  • Annual payroll and average payroll per worker increased more quickly in states with higher minimum wages.

Based on this data, the notion that minimum wage hikes kill small businesses and reduce job opportunities appears false. Instead, raising the minimum wage seems to improve entrepreneurs' abilities to start new businesses and hire new workers. Moreover, additional research published in the Journal of Economic Issues found that minimum wage hikes did not correlate with an increase in small business failures. That research even suggested the opposite is true.

Still, any increase in the minimum wage is bound to have an impact on a small business's balance sheet. While there might be some benefits associated with increasing workers' pay, small businesses must first be capable of absorbing the cost. There are several steps an entrepreneur can take to either reduce costs or boost revenue in order to offset wage increases.

How small businesses can absorb the increased costs of minimum wage hikes

Many small businesses aren't prepared to pay increased labor costs out of pocket, so it's important to prepare when new legislation has been enacted. How can small businesses prepare for a minimum wage hike? With one or more of the following tactics, entrepreneurs can start bringing more money in and/or reducing the amount of money flowing out:

  • Cut expenses: If you live in a state or city planning to raise the minimum wage, you likely have some time to phase in cost increases in modest increments. While preparing to absorb these costs, re-examine every facet of your business. Is there waste or inefficiency you can address that would save you money elsewhere? Consider aspects like energy consumption, surplus inventory and service contracts. Cutting extraneous expenses will help you not only absorb the new labor costs, but also streamline business operations.

  • Increase prices: If you find yourself in a market where you are competitive on prices, consider increasing what you charge. Before raising prices, be sure to communicate with your customers so they know what to expect. Also examine what your competitors charge to ensure your customers don't flee for more cost-effective alternatives. Be very careful when increasing prices, but if you have the room to do it, coupling price increases with modest budget cuts could free up some capital.

  • Reduce hours: If you find it difficult to offset the minimum wage increases, consider reducing your operating hours. Are you open outside of peak times? Identify when most of your revenue comes through the door versus slower times of day, and adjust your operating hours accordingly to save money.

Planning for the costs of a minimum wage increase can be challenging, but it's not impossible. That's especially true considering that most cities and states that raise the minimum wage give businesses several years to gradually step up compensation, rather than expecting them to drastically increase hourly wages overnight. In fact, some businesses build regular, voluntary wage increases into their budget anyway, whether they operate in a jurisdiction where minimum wages are increasing or not.

Why small businesses voluntarily increase pay

A relatively strong economy and a competitive labor market due to low unemployment mean there is upward economic pressure on wages as well. To remain attractive to talented candidates, businesses have to offer more attractive working conditions to job seekers (which often means better pay, first and foremost) than their competitors.

Employers and business leaders are acutely aware of the power of increased wages. According to a Wall Street Journal and Vistage survey conducted in December 2014, 30% of the 740 small business CEOs polled intended to raise wages voluntarily to attract more job candidates and retain talent. Another 17% intended to add to benefits packages as well.

Many business owners, including Andrei Vasilescu, CEO and digital marketing expert at DontPayFull, understand they have to remain competitive if they want to keep their best workers and continue bringing in the candidates with the most potential. That's why Vasilescu offers automatic annual wage increases as well as a midyear bump.

"I own a small online business, which needs a team of tech-savvy smart minds as programmer, designer, digital marketer, sales analysts, etc.," he said. "None of those professionals work at basic wages, and these expert professionals are always wanted by other companies. Hence, to retain them in my business … I have to give them something extra."

Well-paid employees are less likely to leave, reducing turnover. In a business landscapewhere the average cost of replacing an employee is $2,000 to $7,000, not to mention the impact of high turnover on morale, retention is important. In a tight labor market, losing valuable employees is an expense most businesses cannot afford.  

The corporate social responsibility perspective

It's not always a pure bottom-line motivation that leads to wage hikes. Some businesses voluntarily raise wages because they believe in giving their employees a living wage, which accounts more for the cost of living in each region than the going rate for labor.

One such company is Coastal Credit Union, which is organized as a cooperative and headquartered in Raleigh, North Carolina.

"As a cooperative and a responsible corporate citizen, we felt like it was necessary to take the initiative to ensure that our own employees are able to earn enough to take care of themselves," said Joe Mecca, Coastal's vice president of communication. "Coastal puts employee engagement at the core of what we do, and we believe it is every bit as important as member satisfaction and overall business performance."

Coastal initially increased its minimum wage to $12.50 per hour in 2016 and raised it again to $15 per hour in March 2018. Although Coastal's rationale focused on employees, the company has recognized the hallmark rewards of paying employees a living wage: reduced turnover, higher employee engagement and a boost to productivity.

"It's not just socially responsible; it makes good business sense," Mecca said. "In our experience, increasing the minimum wage has been well worth it. We're enjoying high levels of engagement, which helps with member satisfaction, productivity and our overall financial results."

Benefiting from higher minimum wages by planning ahead

No one wants expenses to go up, but business owners understand the value of making investments in important assets. A small business has no greater asset than the people in its employ, so their wages should be viewed as an investment. Moreover, in states and cities where minimum wage increases are legislated, increasing compensation is a compliance issue. Luckily, paying higher wages doesn't have to be a negative; in fact, it can be a positive.

However, small businesses must plan to absorb the costs of minimum wage increases if they are to realize the benefits of increased employee recruitment, retention and morale. Cutting extraneous costs, raising prices and optimizing your business hours are essential when facing a rising minimum wage.

Small businesses that successfully navigate minimum wage increases often find themselves in an economically healthy environment where consumers have more disposable income to spend on goods and services. They also have happier, more productive and more loyal workers in their employ. If you plan accordingly, minimum wage increases don't have to be an obstacle; they can instead be a benefit for both your business and your employees.  

Some source interviews were conducted for a previous version of this article.

Image Credit: AndreyPopov / Getty Images
Adam Uzialko
Adam Uzialko
Business News Daily Staff
Adam Uzialko is a writer and editor at and Business News Daily. He has 7 years of professional experience with a focus on small businesses and startups. He has covered topics including digital marketing, SEO, business communications, and public policy. He has also written about emerging technologies and their intersection with business, including artificial intelligence, the Internet of Things, and blockchain.