Switching to S-Corp Means Guessing Your Own Reasonable Salary

“I made the switch last year. It was way more of a pain for me to set up than I imagined. I dealt with that and different forms for awhile actually. I still am happy I made the switch, and the payroll company is automatic. They also deal with quarterly filings.”

“I have a question about the profits of an s corporation. I am a 50/50 partner in an s corporation. If I have show a profit of $100,000 one year, we would each be taxed for 50,000 as pass-through income, I believe. If we kept that money in our business bank account, then a year or two later, decide to give ourselves a $50,000 bonus each, would we be taxed again on that same money? I'm assuming this is a stupid question and I could probably just ask my accountant, but I decided to come here in”

Most clients who say that are the polar opposite.

The only accurate answer

I'm simple as can be in my opinion.

“Not true. If no distributions are taken, reasonable salary is not an issue. The IRS can reclassify distributions as salary, but if there aren't any distributions, there's nothing to reclassify.”

“You need to satisfy the owner-operator "reasonable salary" regardless before you take any distributions. Active owner-operators cannot pull money solely via distributions. You must pay yourself a reasonable W-2 salary before taking distributions. What is "reasonable"? All depends upon the industry you are in, etc. A reasonable salary for an S corporation owner is generally the fair market value of what a third-party business would pay someone to perform the same duties under”

“Well the thing is I've drawn $3,000 since electing the S corp status, so I'm not sure there would be much to reclassify. I just have cash tied up in the business that I already paid SE taxes on during the LLC years.”

“I think the issue is more about your low salary than just the distributions. If you had a reasonable salary, then the distributions in a loss year would not be an issue so long as you had enough basis to cover the distributions.”

How many hours a year have you been spending on the business?

“This has been a red flag all along, it didn't just start this year. The issue isn't whether you had a profit or loss, the issue is the amount of distributions versus your claimed salary. Obviously it's impossible for anyone to say without knowing the facts of your business, but 12k is almost never going to be a reasonable salary for a full-time business owner. If the IRS ever audited you, they could go back as far as the statute allows and reclassify distributions you took to salary”

“I mean... it's not so much "risk" as it is tax evasion. This is not unlike saying "What's the risk to just not paying my taxes because I have other bills." You can imagine how well it would go over. In general, you always pay reasonable compensation before distributions. Always. Now, reasonable compensation is far more flexible than most people realize. For example, if you are only getting enough work to fill 25% of your work week, you can absolutely pro-rate reasonab”

“I have had an S-corp (I'm the sole owner, full-time, W-2 employee) since 2021. Early years as an LLC (2018-2020) were solid, six figures in profit, most of which I reinvested into inventory and kept in the business rather than distributing. Since 2024, increased overseas competition has hit hard and I'm now running $10-20K losses annually. My salary has stayed low ($12,000/year) throughout, including the profitable years, which I know isn't ideal. Now, with my girlfriend recently lai”

“I(40m) gross 211k/yr (s-corp profit), wife(44f) is at 24k/yr. Background is in driving truck, currently run a dispatch s corp which is why my income is what it is. This has been a relatively new change, I’m right at 2 years now. The only liabilities are my truck at 900/mo 26k remaining, and rent at 2000/mo. It’s a write off for the business so there is no point to pay off the truck. The business also is able to absorb some of what are also costs of living due to being home based, such as part of”

“Increased withholdings on her salary from the s corp. It can be done via the normal recurring payroll cadence or as a lump sum "bonus" payroll.”

“It's all about what you prefer. You have an X tax bill. You can have each of you withhold half of X, or each withhold 1/3 of X and make estimated payments of the other third. Or, one of you can withhold all of X. Or any combo that gets X withheld. No right or wrong way to do it, as long as it's timely (so you can't just make big estimated payments at the end of the year. You can do big withholding at the end of the year though).”

“Thanks, super helpful. I will do some digging on our overall burden, what we've collectively paid so far, and do some catch-up. Sounds like it's advisable to set w4s as single in the future, though?”

“Haha! Love to see the first year success. In a vacuum, yes, that's how I would handle it. That is with an assumption that you haven't hit the reasonable compensation number already. A couple other things you may want to consider asking your accountant: Does it make sense to make retirement contributions to help offset tax? Is it a good idea to make a PTET election?”

“I'm the wife ;) Both of us have our w4s set up with no withholdings though we qualify for some (eg dependents). Husband does a small amount of additional withholdings (a few hundred a month) as for the past few years, we've ended up owing by ending up in the next tax bracket or EOY bonuses.”

“I'm the wife ;) So it sounds like I should be increasing my withholdings on my w2 payments instead of making these separate payments? This is my first year in business so neither of us had much to go on when I started. Sounds like I have some things to adjust now that it's clear my business income is higher than anticipated.”

“As the title says. What are the pros and cons of either approach? The hourly rate is around 110. At what threshold should one go for the other? Also, how do you run payroll and pay all state and federal taxes if you go the S corp route? Thank you. submitted by /u/halka19 [link] [comments]”

no employees, MFJ, no kids, Cali, only income.

“it's sick. California has expenses with s-corp you should look into. However with CBP and your tax rate it is very valuable. It needs to be very steady income for a few years”

“Lesson learned though, don't run face first into something you don't know about. I typically recommend s-corp around 80k net, due to the additional compliance costs. And even then it depends. There are lots of s-corps that would never be able to justify their "reasonable comp" if it was every actually scrutinized.”

“Sorry, this is just wrong. As an employee of an S corp I pay FICA only on my salary. That's ~7.5% from me and 7.5% from the corporation. As the owner of the S corp I take the profits after expenses, including salary expense, as a profit distribution. That's "unearned income" to me and does not incur the 15% tax. 15% of $100k profit is a good number.”

“I converted to a sub S corporation after three years in business. I did it for two reasons. 1) Tax advantage. The only real tax advantage I found is that I can control my salary. I can keep my salary low (within limits) and pay FICA taxes on only that. The other profits I take out as distributions and don't have to pay the 15% FICA taxes. 2) Liability protection. As a corporate entity I'm not personally liable for most mistakes that might cost a client money. But you have to keep the pap”

“SE tax at 15.3% still sits on the profit until an S-corp salary is real and lower. This is incorrect. The SS part of SE tax ( ~12.4%) only applies up to the SS wage cap-- even for sole-proprietors.”

“It's highly likely that their reasonable compensation will be more than the SS wage base, so it's very possible that an S-Corp will cost them more than they'll save.”

“The tax math is complicated at your income. You make well over the Social Security cap (so the usual S-corp benefit, lowering SE taxes, helps less), but on the other hand, you're probably at the level where the QBI deduction phases out, which can be partly restored by paying yourself a W2 salary. It's going to depend on your exact income and filing status. What are the biggest legitimate tax write-offs/investment strategies I should be looking at at this income level? Solo 401k ( you can”

“If that $300k is all 1099, you’re not already over the SS cap the way a W-2 job would be. SE tax at 15.3% still sits on the profit until an S-corp salary is real and lower. Florida is the only no-income-tax state on your list. Forming an LLC there doesn’t move you if you still live in Georgia. Get a W-8BEN from the overseas developer. Don’t 1099-NEC a foreign person.”

“An S Corp HAS to pay the owner a reasonable salary, something comparable to what you would have to pay someone else to come in and do the same job (usually a management level type pay). Once that requirement is met, anything above that is an owner's draw. The payroll has to go through actual payroll like all the other employees. The owners draws are NOT taxed. A net check to himself could be viewed simply as an advance on the wages, which means it still needs to go through payroll and be gro”

“If you are the sole owner of the s-corp, your spouse cannot take “draws”. You (OP) can take s-corp distributions. I would recommend you have a meeting with your current CPA. Ask a ton of questions about your structure (take notes and familiarize yourself with your setup) and how you are taxed. If after this meeting, you still feel confused or are still untrusting, you probably should find a new CPA. His strategy might be tax optimal, but if you’re left confused and/or untrusting, the relationshi”

“Yes it’s absolutely a potential reason, if above QBI wages and not an SSTB, then you have to weigh savings from QBI, Medicare tax, and PTET offset by lost 6.2% employer SS tax, FUTA/SUI, usually lower retirement contributions and added compliance costs. Typically income from the S Corp needs to be high enough to make it worthwhile. Like $150k+, otherwise I find SMLLC is best. If in a high tax state, adding a spouse or child or parent as a partner to be able to do PTET can be worthwhile and bette”

“I'm just saying if there were other factors. I didn't say one way or another since I don't have the actual tax return in front of me, I just it could be a possible reason 🤷”

“Potentially. Possible PTET deduction and QBI phaseout could be the reason to go s corp. The W-2 would give them the wages to maximize QBI deduction (if partially or fully phased out).”

“Based on what you've added in replies to others, I agree with those who say you're almost certainly better off without your S-Corp. I also wanted to address your comment about making retirement contributions. You will be able to make larger employer contributions to a SEP-IRA or solo-401k as a sole-proprietorship than you're eligible to make as an S-Corp. With a sole-proprietorship, you'd be able to contribute up to 20% of the full profit - 1/2 SE tax (which will only be Medicare”

“It's pretty common for S corp owners to take uneven payroll. I don't think it would be an IRS red flag. However, you say you are barely taking half the income as salary. Where did the other income for the year go that it's not in the S corp account to cover the low month payroll? At the very least, this is only a first year thing, right? Next summer you'll have the saved profit from this fall?”

“At $500,000, an S-corporation is worth evaluating, but the Social Security wage ceiling is not the standard for determining your salary. Your salary must be reasonable compensation for the work you perform. If nearly all the revenue comes from your personal consulting services—with no employees, significant capital, or other people generating income—a salary limited to the $184,500 Social Security ceiling may be difficult to defend. The salary should be based on what the market would pay someone”

S-Corp members do still pay self-employment taxes, just not as much.

“No. If the W2 portion is above the SS cap, the payroll tax savings are much smaller, and they're potentially offset by the reduced QBI deduction.”

“What is a reasonable salary for the work you do? Your s corp would have to pay you that much. It's only the amount above that reasonable salary that you take as an ownership distribution that offers any tax advantages.”

“Reasonable compensation in an S corp relates to the treatment of distributions from the corporation. It does not require distributions.”

“Yeah, I didn't mean to imply you needed payroll to get a SEP IRA or group medical insurance. It just provides an easy path to getting there. I can't count how many clients I have that have SEP IRAs that they don't contribute to just because they never think to contribute to it. Decent payroll makes it trivial. Same thing with insurance. Lots of my clients just buy health insurance through the state marketplace. Invariably, they get much better deals on insurance when they set up payr”

“Reasonable comp for an owner that does no work for the business = $0. Reasonable comp is based on how much would the company pay a non owner to do the same tasks for the company.”

“The reasonable salary for someone that does zero work for a company would be $0.”

“Nope. But only entities with one class of stock can make an S-Corp election, and it would also mean that distributions would need to made prorated for shareholders. Partnership generally have more fluidity with the timing of things. S-corps do not. If fella is saying all shareholders must draw a salary, then he probably isn't going to grab the rest of the nuance here either.”

“The hope is you get paid the tax rate at least from the company for gain reported to you annually at least!”

“Passive investor in an S-Corp, do they need to be paid a salary? NO. If we elect S-Corp status, would that 5% shareholder need to be put on payroll and receive a reasonable salary, or would the salary requirement only apply to shareholders who actually work for the company? my CPA is arguing the former but I am having trouble making sense of it. Your CPA needs to share the contact information for their drug dealer.. cause they're on some really good substances and I'd like to try whateve”

“your cpa is wrong. the share of resulte to the passive investor may very well (should) be classified as a passive activity but a 'reasonable' salary for an investor providing no services is ZERO”

“No, the 5% passive owner does not need a salary. The IRS "reasonable compensation" rule only applies to shareholder-employees, ie owners who actually perform services for the business. If they truly do no work for the company, there is no basis to put them on payroll or issue them a W-2. The requirement exists to stop active owners from taking 100% of their pay as distributions to avoid payroll taxes. Since a passive investor isn't performing services, their share of profits flows”

“If he does not work in the business he does not need a salary.”

Your CPA is wrong.

What wutang said.

“All s corp owners are required to be paid reasonable compensation; in the case of an owner that does not perform services/work for the corp outside of their role as owner, that may mean reasonable compensation is $0 and they don't have a salary/wage”

“This is mostly inaccurate: Payroll also helps in general as it provides a gateway to paying state unemployment insurance, other state employment taxes, funding things like a SEP IRA, group medical insurance, etc. If they want to do a Home Office deduction (that will survive an audit), then they'll need an accountable plan—which is way easier using expense tracking with payroll. Yes, an S-Corp means paying federal and state unemployment insurance, as well as other state employment taxes. HOWE”

“You should probably do more research before converting to an S Corp. People think they get to avoid FICA since creating an S Corp is like waving a magic wand to prevent paying taxes.”

“You found a CPA who specializes in S Corp and “minimal” w2 pay? You do know it’s called “reasonable” compensation and to make it minimal would not be reasonable.”

“At $200k self employment income, S Corp could be worth it. The SE tax savings on distributions typically outweighs the added payroll/filing costs. One wrinkle for you is that since you and your spouse already have $200k in W-2 income between you, whichever of you earns the SE income may already be near the Social Security wage base cap from W-2 wages alone. That shrinks the SE tax savings, so the benefit would be smaller than a simple 15.3% estimate. May be worth modeling exact numbers with a CP”

I have seen reasonable comp issues at state level.