How to Pay Yourself From an S Corp: Salary, Distributions and Who Decides

An S corp owner who works in the business is paid two ways: a salary through payroll, and distributions of what is left. The salary comes first, and the IRS has opinions about its size.

Wages are paid through payroll. Income tax, Social Security and Medicare are withheld, the company pays its share, and you receive a W-2 in January.

Distributions are paid from profit after wages. They are not subject to payroll taxes, which is the reason most owners elected S corp in the first place.

The IRS requires reasonable compensation to be paid as wages before non-wage distributions. That sentence is the whole rule, and it has no numbers in it.

The IRS publishes no percentage, formula or safe harbor. A split you read about online is a habit, not a rule.

When a figure is challenged, courts look at the facts of the business. The IRS lists the factors they weigh:

• Training and experience
• Duties and responsibilities
• Time and effort devoted to the business
• Dividend history
• Payments to employees who are not shareholders
• Timing and manner of paying bonuses to key people
• What comparable businesses pay for similar services
• Compensation agreements
• Whether a formula was used to set the pay

Your CPA does. The figure depends on your work, your hours, your profit and what the market pays for the role, and your CPA sees all four.

A payroll team does not set the salary and should not. Its job is to run the figure the CPA sets, on schedule, and to keep the record that shows it was paid.

Ask your CPA to write down how the figure was reached. A number with a memo behind it answers an IRS question in one page.

If the company pays your health insurance, the IRS treats the premiums as wages for a 2% shareholder. They are reported in Box 1 of your W-2 and left out of Boxes 3 and 5.

The IRS allows the related deduction only when the corporation pays the premiums and reports them as wages. Skip the W-2 step and the deduction is at risk.

Employee deferrals into a Solo 401(k) or a similar plan come out of wages, so they run through payroll as well.

Monthly is the usual rhythm for a one-person S corp. It keeps deposits and filings on a predictable calendar and gives the W-2 twelve clean entries.

Some owners run a single payroll late in the year. It is allowed, and it is also where most missed deposits and late returns come from.