Strategies for Effectively Distributing Profits- How to Pay Yourself from an S Corporation

How do I pay myself from my S Corp?

Managing your finances as a small business owner can be a complex task, especially when it comes to determining how to pay yourself from your S Corp. As an S Corp, you have unique tax considerations that must be taken into account to ensure compliance with IRS regulations. In this article, we will explore the various methods you can use to pay yourself from your S Corp, including salary, distributions, and bonuses, as well as the tax implications of each option.

Understanding S Corp Salaries

One of the most common ways to pay yourself from an S Corp is through a salary. As an S Corp shareholder, you can receive a salary for your services rendered to the corporation. However, it is important to note that the salary you receive must be reasonable and commensurate with the work you perform. The IRS scrutinizes S Corp salaries to ensure they are not being used to avoid paying taxes.

To determine a reasonable salary, consider the following factors:

1. Market rates: Research the average salary for your position and industry.
2. Ownership percentage: Your salary may be lower if you have a higher ownership stake in the company.
3. Job responsibilities: The complexity and scope of your duties should be taken into account.

Once you have determined a reasonable salary, you can pay yourself by writing a check from the S Corp’s bank account to your personal account. This salary is subject to income tax, FICA taxes, and possibly state income taxes, depending on your location.

Understanding S Corp Distributions

Another way to pay yourself from your S Corp is through distributions. Unlike salaries, distributions are not subject to payroll taxes, but they are still subject to income tax. Distributions are typically paid out of the S Corp’s profits after the corporation has paid all necessary expenses and taxes.

To calculate your distributions, follow these steps:

1. Determine the S Corp’s net income after all expenses and taxes.
2. Subtract any non-deductible expenses and contributions to employee retirement plans.
3. Allocate the remaining income to the shareholders based on their percentage of ownership.

Distributions are paid directly to the shareholders’ personal bank accounts. While distributions are not taxed as income, they are reported on Schedule K-1 (Form 1120S) and will be included in your personal income tax return.

Combining Salaries and Distributions

In some cases, you may choose to combine both salaries and distributions to pay yourself from your S Corp. This can be a strategic move to optimize your tax situation. For example, you might receive a lower salary to avoid payroll taxes and then take a larger distribution to cover your living expenses.

When combining salaries and distributions, it is crucial to maintain a reasonable salary that reflects the work you perform. This will help you avoid scrutiny from the IRS and ensure compliance with tax regulations.

Consulting with a Tax Professional

Navigating the complexities of paying yourself from an S Corp can be challenging. It is always recommended to consult with a tax professional, such as an accountant or tax attorney, to ensure you are making the best decisions for your business and personal finances. They can provide personalized advice based on your specific situation and help you stay compliant with tax laws.

In conclusion, paying yourself from your S Corp can be done through salaries, distributions, or a combination of both. Understanding the tax implications of each option and maintaining a reasonable salary are key factors in managing your finances effectively. Don’t hesitate to seek professional advice to ensure you are making the best decisions for your business and personal well-being.