The legal avoidance of payroll taxes is a prime motivator for organizing an S Corporation. Unfortunately, many myths have formed over the years to enhance the avoidance of these payroll taxes. They are myths and will not pass IRS scrutiny.
Wrong. The company’s revenue does not determine Reasonable Compensation for S corporation owners.
We want to emphasize that your W-2 has nothing to do with what you can afford to pay yourself.
Just think about it: companies do not adjust employees' W-2s each pay period based on what they can afford to pay them.
Employees are paid based on the value of the work performed and the market rate.
The IRS and courts require that shareholder-employees receive a W-2 in the same manner as they pay their employees.
Wrong. For C corporations, the IRS allows a business to deduct salaries and other compensation paid to employees as a business expense, but only if the amount paid is "reasonable" for the work actually performed.
This means the pay must be similar to what other businesses would pay for the same job under similar circumstances.
If the company is closely held (owned by a small group of people, often family or a few individuals), and especially if the owners are also employees, the IRS will scrutinize the situation to ensure that salaries are not merely a means of distributing profits to owners while avoiding taxes on dividends.
