S Corp Owners: The Importance of Paying Yourself a Reasonable Salary

Is your S corp paying you enough?

Determining how much to pay yourself can be a common dilemma for entrepreneurs. However, if you run your business as an S corporation, the guiding principle is that you (and any family members working in the business—spouse, parent, child, or grandchild) must receive a “reasonable” salary. The temptation to underpay often arises because salaries are hit with various payroll taxes, while S corp profits passed through to shareholders are not subject to those same taxes.

Be aware, though, that the IRS keeps a close eye on S corp compensation. If the agency decides your salary is too low, the company could be liable for unpaid payroll taxes. To reduce this risk, make sure you thoroughly document how you’ve determined that your pay meets the “reasonable” salary requirement.

A useful way to gauge whether your salary is reasonable is to imagine selling your S corp to an outside investor who hires you to keep running the company. Ask yourself what that new owner would pay you for the work you do. In practice, this “reasonable” salary is generally what other similar businesses would pay someone in the same role, under similar circumstances. S corp shareholders should clearly record these compensation decisions in corporate meeting minutes, explaining factors like the business’s current finances, the number of hours worked, and the nature of the duties performed.

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