5 signs your small business books need a cleanup
If reconciling makes you wince or your balance sheet has a ‘mystery’ account, it may be time for a reset. Here are the tell-tale signs.
Tax Planning
S-Corp owners: what ‘reasonable compensation’ really means
Electing S-Corporation status can save business owners real money on self-employment tax — but only if you handle owner pay correctly. The phrase you’ll hear over and over is reasonable compensation, and getting it right is one of the most important things an S-Corp owner can do.
The basic idea
As an S-Corp owner who works in the business, you wear two hats: you’re an employee and a shareholder. The IRS requires that you pay yourself a reasonable salary (W-2 wages) for the work you actually do, before taking additional profit as distributions.
Distributions aren’t subject to self-employment tax — but wages are. That gap is exactly why the IRS pays attention to how S-Corp owners split the two.
What makes compensation “reasonable”?
There’s no single magic number. Reasonable compensation is generally what you’d have to pay someone else to do your job. Factors include:
- Your training, experience, and responsibilities
- The time and effort you devote to the business
- What comparable businesses pay for similar roles
- Your company’s revenue and profitability
The cost of getting it wrong
Pay yourself too little to dodge payroll tax, and you risk the IRS reclassifying distributions as wages — with back taxes and penalties attached. Pay yourself more than necessary, and you hand over self-employment tax you didn’t owe.
This is where a CPA earns their keep. A reasonable compensation analysis backs up your number with documentation, so you stay compliant and tax-efficient. See our S-Corp advisory or book a call.