Compensating an S Corporation Shareholder
What is Considered Reasonable?
If you are a corporate officer-shareholder of an S corporation performing services for the corporation, you must pay yourself a "reasonable salary." Corporate officers are considered employees of the corporation by law.
The IRS has not defined reasonable compensation in the code or regulations. However various courts have ruled on this issue based on the facts and circumstances of each case.
There are no specific guidelines for reasonable compensation in the Code or the Regulations. The various courts that have ruled on this issue have based their determinations on the facts and circumstances of each case.
Some factors considered by the courts in determining reasonable compensation:
· Training and experience
· Duties and responsibilities
· Time and effort devoted to the business
· Dividend history
· Payments to non-shareholder employees
· Timing and manner of paying bonuses to key people
· What comparable businesses pay for similar services
· Compensation agreements
· The use of a formula to determine compensation
S corporations should be careful when deciding how they are going to compensate their officers. If they choose to treat their compensation as cash distributions, payments of personal expenses, and/or loans rather than as wages. The IRS could reclassify these amounts as compensation to the shareholder/employee resulting in additional taxes and significant penalties for the S corporation.
