S Corp Owners Must Set Reasonable Salary Before Taking Distributions
Accounting expert David Riggs outlines IRS rules requiring S corp owners to pay themselves a defensible salary before drawing shareholder distributions.
S corporation owners who draw profits from their businesses face a firm IRS requirement: they must first pay themselves a reasonable salary subject to payroll taxes before taking any shareholder distributions, according to accounting expert David Riggs writing in HelloNation.
The distinction matters because distributions are not subject to self-employment taxes, creating an incentive for owners to minimize their salary and maximize distributions. The IRS scrutinizes this structure closely, and owners who set salaries too low risk reclassification of distributions as wages, triggering back taxes, penalties, and interest.
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Riggs outlines the factors that determine what counts as reasonable compensation: the owner's specific duties within the company, their professional experience, the number of hours worked, and what comparable businesses pay for similar roles. These criteria mirror the framework the IRS and courts have historically applied when challenging S corp compensation arrangements.
Documentation is central to the expert's guidance. Supporting records that justify the salary decision — such as industry wage surveys, job descriptions, and time logs — can be the difference between a defensible position and a costly audit finding. Without those records, even a salary that appears reasonable on its face may be difficult to sustain under examination.
For small-business owners and sole practitioners operating as S corporations, the takeaway is that compensation planning is not merely an accounting formality but a compliance obligation with direct tax consequences. Continue reading at All Financial Services & Investing.
