If you recently elected S corporation status for your business, you made a smart move. S Corps can save owners thousands of dollars in self-employment taxes every year. But the moment you file that election, a new question appears: how do you actually pay yourself from an S Corp?
The answer is not as simple as writing yourself a check. As an S Corp owner who works in the business, the IRS requires you to pay yourself a “reasonable salary” through formal payroll before you can take distributions. Getting this wrong can trigger audits, back taxes, and penalties that wipe out your savings.
In this guide, I’ll walk you through everything you need to know about how to pay yourself from an S Corp. We’ll cover the three payment methods, how to determine a reasonable salary, the popular 60/40 rule, tax implications, payroll setup, IRS compliance, and real audit case studies with dollar amounts.
By the end, you’ll understand exactly how to structure your compensation to stay compliant while maximizing your tax savings. Whether you’re a freelancer, consultant, or small business owner, this guide gives you a clear roadmap.
Table of Contents
What Is an S Corporation?
An S corporation is not a business entity type. It’s a tax election. You form an LLC or a corporation first, then file Form 2553 with the IRS to elect S Corp taxation. This election changes how the IRS taxes your business income.
The defining feature of an S Corp is pass-through taxation. Business profits and losses flow directly to the owners’ personal tax returns. The corporation itself does not pay federal income tax at the entity level. This avoids the “double taxation” problem that traditional C corporations face, where income gets taxed once at the corporate level and again when distributed as dividends.
Here’s where the magic happens for your wallet. In a sole proprietorship or standard LLC, all of your net business income is subject to self-employment tax, which is 15.3% (12.4% for Social Security plus 2.9% for Medicare). On $100,000 of profit, that’s $15,300 in self-employment tax alone.
When you elect S Corp status, you split your income into two categories. Your salary is subject to payroll taxes, but your distributions are not. That distribution portion escapes self-employment tax entirely. On a $100,000 business income with a $50,000 salary and $50,000 in distributions, you save roughly $7,650 in self-employment tax compared to a sole proprietorship.
S Corp status works best for profitable service-based businesses where the owner provides the labor. Freelancers, consultants, agencies, medical practices, and professional service firms are ideal candidates. Generally, if your net business income exceeds $40,000 to $50,000 after paying yourself a market-rate salary, the tax savings justify the added administrative costs of running payroll.
One concept to understand before we go further is stock basis. Your stock basis is essentially your financial stake in the S Corp. It starts with your initial investment and increases with profits and contributions, then decreases with losses and distributions. You can only take distributions up to the amount of your stock basis. Taking distributions beyond your basis creates taxable capital gains, so tracking this number matters.
How to Pay Yourself From an S Corp: 3 Methods
S Corp owners have three ways to get money out of the business. Most successful owners use a combination of methods, but understanding each one individually helps you see why the combination approach wins.
The golden rule to remember: if you perform services for the S Corp, you must pay yourself a reasonable salary first through formal payroll before taking any distributions. The IRS enforces this strictly, and getting the order wrong is one of the most common audit triggers.
Method 1: Paying Yourself a Salary (W-2 Wages)
The first way to pay yourself from an S Corp is through a formal W-2 salary. This works exactly like any other employee’s paycheck. You set a salary amount, run it through payroll, and receive paychecks with taxes withheld.
When you pay yourself a salary, the S Corp withholds federal income tax, Social Security tax (6.2% up to the annual wage base), and Medicare tax (1.45%) from each paycheck. The S Corp also pays matching amounts of Social Security and Medicare taxes as the employer. Combined, these are known as FICA taxes, totaling 15.3% split between employer and employee.
At year-end, you receive a Form W-2 just like any employee. You report this wage income on your personal tax return, and the S Corp deducts your salary as a business expense on Form 1120-S.
The advantage of a salary is simplicity and compliance. The IRS has no problem with salary payments. The disadvantage is cost. Every dollar paid as salary triggers payroll taxes on both sides. If you set your salary too high, you pay unnecessary taxes. If you set it too low, you risk IRS reclassification.
Method 2: Paying Yourself Through Distributions
The second method is distributions, also called shareholder distributions. These are profit distributions paid to shareholders based on their ownership percentage. Distributions are not salary, not wages, and not subject to payroll taxes.
This is where S Corp owners find their tax savings. Distributions escape the 15.3% FICA tax entirely. If your S Corp earns $120,000 in profit and you pay yourself a $60,000 salary, the remaining $60,000 can be distributed without any payroll tax liability. That’s a savings of about $9,180 compared to paying it all as salary or taking it as sole proprietor income.
However, distributions come with strict rules. First, you cannot take distributions unless you are also paying yourself a reasonable salary. Second, distributions must be proportional to ownership percentages. If you own 60% and your partner owns 40%, distributions must follow that split. Third, you cannot distribute more than your available profit and stock basis.
Distributions do not require a specific frequency or formality. You can take them monthly, quarterly, or annually. You can write yourself a check, transfer funds to your personal account, or even have the S Corp pay personal expenses on your behalf (though the latter requires careful accounting).
At tax time, distributions are reported on Schedule K-1, which is part of Form 1120-S. The K-1 shows your share of the S Corp’s income, deductions, and credits. You report this information on your personal tax return’s Schedule E.
Method 3: Salary Plus Distributions (Recommended)
The third and most effective method is the combination approach. You pay yourself a reasonable W-2 salary that satisfies IRS requirements, then take the remaining profit as distributions. This strategy gives you the best of both worlds: compliance and tax savings.
Here’s how it works in practice. Let’s say your S Corp generates $150,000 in net profit for the year. You determine that a reasonable salary for your role and industry is $75,000 based on market research. You set up payroll to pay yourself $6,250 per month, or about $3,125 biweekly.
On that $75,000 salary, the S Corp pays FICA taxes on both sides. The remaining $75,000 in profit gets distributed to you as shareholder distributions with zero payroll tax. Your total self-employment tax burden drops significantly compared to operating as a sole proprietor.
Compare this to taking everything as salary: you’d pay FICA taxes on the full $150,000. Or compare it to taking no salary and all distributions: the IRS would almost certainly reclassify your distributions as wages and hit you with back taxes plus penalties.
The combination method is what virtually every tax professional recommends for active S Corp owners. The only question is where to set the salary line, which brings us to the concept of reasonable compensation.
Salary vs. Distributions at a Glance
To make the comparison clear, here is how salary and distributions differ across key categories:
Salary (W-2 Wages): Subject to FICA taxes (15.3% combined), reported on Form W-2, deductible as business expense on Form 1120-S, requires formal payroll setup, must be “reasonable” per IRS rules, and includes federal income tax withholding.
Distributions: Not subject to payroll taxes, reported on Schedule K-1, limited by profit and stock basis, must be proportional to ownership, only available after paying reasonable salary, and no income tax withholding (you handle this through estimated payments).
Combination Approach: Uses salary for compliance and distributions for tax savings, requires careful planning, offers the biggest tax savings, and is the method recommended by CPAs and the structure the IRS expects.
Understanding the Reasonable Salary Requirement
The reasonable salary requirement is the single most important rule in S Corp compensation. IRS Code Section 3111 and various court decisions establish that any shareholder who provides services to the S Corp must be paid a “reasonable” salary before taking distributions. There is no specific dollar amount that qualifies as reasonable. Instead, the IRS evaluates each situation based on multiple factors.
The concept is straightforward. The IRS does not want business owners to avoid payroll taxes by classifying all their compensation as distributions. So they require that the portion of your compensation that represents the value of your actual labor gets paid as wages. Only the excess profit beyond your labor value can be distributed.
The 9 Factors the IRS Examines
When evaluating whether a salary is reasonable, the IRS and tax courts consider several factors:
1. Your role and duties. What do you actually do day-to-day? A CEO performing high-level management earns more than someone doing basic administrative tasks.
2. Training and experience. Your professional background, licenses, and qualifications affect what similar professionals earn in the market.
3. Volume of business handled. How much revenue does the S Corp generate, and how much of that revenue is directly attributable to your personal efforts?
4. Complexity of the business. Running a multi-state operation with employees justifies higher compensation than a solo consulting practice.
5. Salary compared to distributions. If your distributions dramatically exceed your salary, that ratio itself becomes a red flag.
6. What comparable businesses pay. The IRS looks at industry salary data from sources like the Bureau of Labor Statistics, Glassdoor, and PayScale.
7. Prevailing wage rates. What would an independent company pay someone to do your specific job in your geographic area?
8. Your salary history. What did you earn before electing S Corp status? A sudden pay cut after electing S Corp taxation looks suspicious.
9. Comparison to non-shareholder employees. If your salary is lower than people you manage, the IRS will question it.
How to Research Your Reasonable Salary?
Start with the Bureau of Labor Statistics (BLS) Occupational Employment Statistics database. Search for your job title in your metro area to find median and mean wages. This government data is considered authoritative by the IRS.
Cross-reference with Glassdoor, PayScale, Salary.com, and Indeed. Look for positions that match your responsibilities, not just your title. A “marketing manager” at a small consulting firm earns differently than one at a Fortune 500 company.
Document your research. Save screenshots, download reports, and write a memo explaining how you arrived at your salary figure. If the IRS ever questions your compensation, having this documentation shows good-faith compliance rather than deliberate tax avoidance.
Many CPAs recommend compiling at least three independent salary sources. Some suggest hiring a compensation consultant for a formal study, especially if your salary will be on the lower end of the market range. The cost of a professional salary study (typically $500 to $2,000) is far cheaper than an IRS audit.
The 60/40 Rule Explained
The 60/40 rule is one of the most talked-about strategies in S Corp compensation planning. It suggests splitting your total compensation so that 60% comes as salary and 40% comes as distributions. For example, if your S Corp earns $100,000 in profit, you would pay yourself a $60,000 salary and take $40,000 in distributions.
This rule originated as a rule of thumb among tax professionals and has gained popularity because it provides a defensible starting point. A 60% salary portion generally satisfies the IRS reasonable compensation requirement for many service businesses while still delivering meaningful tax savings on the 40% distribution portion.
How to Apply the 60/40 Rule
Start with your projected annual net business income. Calculate 60% of that figure as your target salary. The remaining 40% becomes your distribution pool. Then verify that your 60% salary figure aligns with market rates for your role.
For a consultant earning $120,000 in net profit, the 60/40 split produces a $72,000 salary and $48,000 in distributions. The $72,000 salary needs to match what similar consultants earn as employees. If BLS data shows consultants in your area earn $80,000 to $90,000, you may need to adjust upward.
When the 60/40 Rule Works and When It Doesn’t
The 60/40 rule works well for service-based businesses where the owner is the primary revenue generator and the business has moderate profits. It provides a balanced approach that most IRS examiners would accept.
However, the rule breaks down in several scenarios. If your profits are very high (say $500,000 or more), a 60% salary may exceed what anyone in your role earns, resulting in unnecessary payroll taxes. If your profits are low (under $60,000), a 60% salary may be unrealistically low and fail the reasonable compensation test.
The rule also doesn’t work for businesses with significant non-owner labor. If you have employees doing the revenue-generating work and you function primarily as a manager, your reasonable salary reflects management compensation, not total business revenue.
Think of the 60/40 rule as a starting point, not a law. Always validate your salary against market data and adjust based on your specific circumstances. Some tax professionals prefer a 50/50 split, others recommend 70/30 for higher-income businesses. The right split depends on your industry, role, and profit level.
How to Determine Your Reasonable Salary: Step by Step
Determining your reasonable salary is the most important decision you’ll make as an S Corp owner. Here is a step-by-step process to arrive at a defensible number.
Step 1: Identify your exact role. Write down every task you perform for the S Corp. Are you the salesperson, the service provider, the manager, or all three? Your salary should reflect the market rate for someone doing those specific tasks.
Step 2: Research market salary data. Use BLS, Glassdoor, PayScale, and industry salary surveys. Focus on your specific job title in your geographic area. Collect data from at least three sources.
Step 3: Adjust for your specific circumstances. Consider your experience level, the size of your business, and your actual hours worked. A brand-new consultant with two years of experience earns less than one with twenty years.
Step 4: Document your methodology. Write a compensation memo that explains your research process, the data you found, and how you arrived at your salary figure. Include copies of salary surveys and market data.
Step 5: Review annually. Your reasonable salary may change as your business grows, your role evolves, or market rates shift. Revisit your salary determination at least once per year.
The Multiple Hats Scenario
Many S Corp owners wear multiple hats. You might be the accountant, the salesperson, the service provider, and the office manager all at once. This complicates the reasonable salary calculation because each role has a different market rate.
The approach recommended by tax professionals is to identify your primary revenue-generating role. If you’re a lawyer who also does your own bookkeeping, your reasonable salary should reflect what a lawyer earns, not the combined salary of a lawyer plus a bookkeeper. The bookkeeping is incidental to your primary professional service.
However, if you genuinely perform two distinct professional roles, you may need to blend the market rates. Document which roles you perform, how much time each takes, and what each role pays in your market. This documentation protects you if the IRS questions your salary level.
A Worked Example
Let’s say you run an S Corp as a graphic designer in Chicago. Your business generates $130,000 in net profit. Here is how you might determine your reasonable salary.
BLS data shows the median annual wage for graphic designers in the Chicago area is $58,000, with experienced designers earning $75,000 to $90,000. Glassdoor shows an average of $62,000 for senior designers. PayScale lists $65,000 for designers with 10+ years of experience.
Given your 12 years of experience and portfolio of high-end clients, you determine a reasonable salary of $70,000. This falls within the market range and reflects your seniority. You pay yourself $70,000 through payroll and take the remaining $60,000 as distributions.
Your tax savings on the $60,000 distribution portion is approximately $9,180 in FICA taxes that you would have paid as a sole proprietor. That real savings is the entire point of the S Corp election.
Tax Implications of Salary vs. Distributions
Understanding the tax treatment of salary versus distributions is essential for making smart compensation decisions. The two income types are taxed very differently, and the differences drive your overall tax strategy.
FICA and Payroll Taxes
Salary payments trigger FICA taxes. The S Corp pays 7.65% (6.2% Social Security up to the annual wage base plus 1.45% Medicare) as the employer. You pay another 7.65% as the employee, withheld from your paycheck. Combined, that’s 15.3% on salary income up to the Social Security wage base, then 2.9% Medicare on amounts above it.
For 2026, the Social Security wage base is $176,100. Salary above that amount only triggers the 2.9% Medicare portion (plus the 0.9% Additional Medicare Tax for high earners). Distributions never trigger any of these payroll taxes.
Self-Employment Tax
S Corp owners do not pay self-employment tax in the traditional sense. Sole proprietors and LLC owners pay SE tax on all business profit. When you elect S Corp status, your salary replaces SE tax with FICA payroll taxes, and your distributions carry no employment tax at all.
This is the core tax advantage of S Corp status. By splitting income into salary and distributions, you reduce the portion subject to employment taxes. The bigger your distribution percentage (while maintaining a reasonable salary), the more you save.
Income Tax on Both Types
Both salary and distributions are subject to ordinary federal and state income tax. Salary is taxed as wages on your personal return. Distributions are taxed as part of your pass-through business income reported on Schedule K-1 and Schedule E.
Neither type of income is taxed at the S Corp level. This is the pass-through advantage. You pay income tax on everything once, at your personal rate.
The QBI Deduction
The Qualified Business Income (QBI) deduction, created by the Tax Cuts and Jobs Act, allows eligible business owners to deduct up to 20% of their qualified business income. For S Corp owners, your distribution portion (reported on Schedule K-1) generally qualifies for the QBI deduction. Your salary does not qualify because it’s W-2 wages, not business income.
This means distributions have a double tax advantage: no payroll taxes plus potential QBI deduction. However, the QBI deduction has income thresholds and limitations that phase in at higher income levels, so consult your tax advisor about your specific situation.
How to Set Up S Corp Payroll: Step by Step
Setting up payroll for your S Corp is a practical necessity if you’re paying yourself a salary. Here is a step-by-step process to get it done.
Step 1: Obtain an EIN. If you don’t already have an Employer Identification Number, apply for one on the IRS website. This is free and takes minutes. You need an EIN to run payroll and file employment tax returns.
Step 2: Register with your state. Most states require you to register for state payroll tax accounts, including state income tax withholding, state unemployment insurance, and any local payroll taxes. Check your state’s department of revenue or labor website for requirements.
Step 3: Choose a payroll method. You can use payroll software like Gusto, QuickBooks Payroll, ADP, or OnPay. These services handle tax calculations, withholdings, filings, and W-2 generation automatically. For a single-owner S Corp, expect to pay $40 to $80 per month for payroll service. Alternatively, you can do it yourself, but the complexity and compliance risk make software the better choice for most owners.
Step 4: Set your pay schedule. Decide whether to pay yourself weekly, biweekly, semimonthly, or monthly. There’s no IRS requirement for frequency. Most S Corp owners choose monthly or semimonthly to keep things simple. What matters is consistency.
Step 5: Run your first payroll. Enter your salary amount, process the paycheck, and let your payroll service handle tax withholdings and filings. The software will generate pay stubs showing gross pay, tax withholdings, and net pay.
Step 6: File required forms. Your payroll service should handle quarterly filings (Form 941 for federal employment taxes, state equivalents) and annual filings (Form 940 for federal unemployment, W-2s, and W-3). The S Corp also files Form 1120-S annually by March 15, which includes Schedule K-1 for each shareholder.
Handling Distributions
Distributions are simpler than salary because they don’t require payroll processing. To take a distribution, the S Corp’s board of directors (even if that’s just you) should formally approve it. Then you simply write a check or transfer funds from the business account to your personal account.
Keep a clear paper trail. Record each distribution in your accounting software with a memo noting it as a shareholder distribution. Never commingle personal and business funds by paying personal expenses directly from the business account, as this can jeopardize your liability protection and complicate accounting.
Track your stock basis carefully. Every distribution reduces your basis. If your distributions exceed your basis, the excess becomes a taxable capital gain. Your accountant can help you track basis throughout the year so you avoid surprises at tax time.
IRS Compliance, Audits, and Penalties
The biggest fear S Corp owners have is an IRS audit focused on their salary level. This fear is legitimate. The IRS has specifically identified S Corp officer compensation as an area of enforcement focus. Let’s look at what triggers audits and what happens when the IRS wins.
What Triggers S Corp Compensation Audits
Several patterns draw IRS scrutiny. Taking zero salary while receiving large distributions is the most obvious red flag. The IRS has data showing which S Corps report zero officer compensation, and they actively target these returns.
A salary that seems unreasonably low relative to distributions also attracts attention. If your $200,000 S Corp pays you a $10,000 salary with $190,000 in distributions, that ratio will likely trigger examination. Sudden salary reductions after years of higher wages also look suspicious, especially if they coincide with an S Corp election.
Reporting losses while taking distributions is another flag. You generally cannot take distributions if the S Corp is losing money, so distributions during unprofitable years suggest either basis problems or misclassification of expenses.
Real IRS Audit Case Studies
Understanding what happens in real audit cases helps illustrate the stakes. Here are two landmark cases every S Corp owner should know.
Watson v. United States (2010): David Watson was a CPA and partner in an accounting firm who elected S Corp status and paid himself an annual salary of $24,000. His S Corp generated over $200,000 in profits, mostly distributed to him as distributions. The IRS reclassified approximately $175,000 of his distributions as wages. The court agreed, finding that $24,000 was far below what a CPA with his qualifications and billable hours should earn. The result: Watson owed back payroll taxes, penalties, and interest on the reclassified amount.
Sean McAlary Ltd., Inc. v. Commissioner (2013): Sean McAlary ran a real estate business as an S Corp and paid himself no salary at all. He took all compensation as distributions. The Tax Court ruled that because McAlary provided significant services to the S Corp, he was an employee and should have been paid wages. The IRS reclassified distributions as wages, resulting in back taxes and penalties.
These cases share a common lesson: the IRS and tax courts will reclassify distributions as wages if your salary is unreasonably low. The consequences include back payroll taxes, penalties, and interest that can be financially devastating.
Penalty Amounts
If the IRS reclassifies your distributions as wages, the S Corp faces the employer share of FICA taxes that should have been paid, plus penalties for failure to file and failure to deposit employment taxes. Penalties can reach 15% to 100% of the unpaid tax amount depending on how late the payment is.
You personally face the employee share of FICA taxes plus income tax on the reclassified amount. Add interest on all unpaid amounts, which compounds daily, and the total bill can easily reach tens of thousands of dollars.
The simplest way to avoid all of this is to set a genuinely reasonable salary, document your methodology, and run proper payroll. The cost of compliance is far lower than the cost of an audit gone wrong.
Record-Keeping Requirements
Maintain thorough records to support your compensation decisions. Keep your compensation memo, salary survey data, board minutes approving salary and distributions, payroll records, W-2s, and Schedule K-1s. Retain these records for at least seven years, as the IRS can go back multiple years in an audit.
Common Mistakes to Avoid
Based on discussions from tax forums and professional experience, here are the most common mistakes S Corp owners make with their compensation.
Taking zero salary. Some owners believe they can take all distributions and no salary. This is the fastest way to an IRS audit and almost certain reclassification. If you provide any services to the S Corp, you must pay yourself a salary.
Setting salary too low. Even owners who pay themselves something often set the bar too low. A $20,000 salary for a consultant generating $200,000 in revenue is not reasonable by any market standard. Always validate against BLS and industry data.
Poor documentation. If you cannot explain how you arrived at your salary figure, the IRS will assume you picked a number to minimize taxes. A written compensation memo with market data is your best defense.
Ignoring state requirements. Some states have additional payroll tax requirements or minimum wage rules that apply to S Corp owners. California, New York, and New Jersey have particularly complex state-level payroll obligations. Check with a local CPA or your state’s labor department.
Forgetting quarterly estimated taxes. Your salary has income tax withheld automatically, but distributions do not. You need to make quarterly estimated tax payments to cover the income tax on your distribution income. Underpaying can trigger estimated tax penalties.
Not tracking stock basis. Distributions in excess of your stock basis become taxable capital gains. Failing to track basis can lead to unexpected tax bills and inaccurate distribution amounts.
Commingling funds. Paying personal expenses from the business account or blending personal and business finances undermines your corporate structure. Always use separate accounts and document every transaction clearly.
Changing salary mid-year without documentation. You can adjust your salary during the year, but frequent or suspicious changes need explanation. Document why you’re adjusting and ensure the new amount is still reasonable.
FAQs
Is it better to take a salary or distribution from an S Corp?
Neither is better on its own. The best approach is a combination of both. You must take a reasonable salary to satisfy IRS requirements, then take additional profit as distributions to save on payroll taxes. Salary provides compliance and withholding, while distributions provide tax savings since they are not subject to FICA taxes.
What is the best way to pay yourself as an S Corp owner?
The best way to pay yourself is through a combination of a reasonable W-2 salary plus distributions. Set your salary based on market data for your role and location, run it through formal payroll, and distribute the remaining profit as shareholder distributions. This approach maximizes tax savings while maintaining full IRS compliance.
What is a reasonable salary to pay yourself from an S Corp?
A reasonable salary is the amount someone in your geographic area would earn performing your specific role for an unrelated employer. Research salaries using the Bureau of Labor Statistics, Glassdoor, PayScale, and industry surveys. Collect data from at least three sources and document your methodology. The IRS considers factors like your duties, experience, training, volume of business, and prevailing wage rates.
How do I pay myself distributions from an S Corp?
To take distributions, first ensure you are paying yourself a reasonable salary through payroll. Then have your board of directors formally approve the distribution amount. Write a check or transfer funds from the business account to your personal account, and record the transaction as a shareholder distribution in your accounting software. Distributions must be proportional to ownership percentages and cannot exceed your stock basis.
What are the ways to pay out distributions in an S Corp besides checks?
Besides writing a check, you can distribute funds via bank transfer from the business account to your personal account, have the S Corp pay for legitimate business expenses that benefit you as an owner, or use an owner draw if your accounting system supports it. Regardless of the method, every distribution must be properly documented and recorded as a shareholder distribution. Avoid paying personal expenses directly from the business account.
What is the most tax-efficient way to pay yourself?
The most tax-efficient method is paying yourself a reasonable salary that meets IRS requirements plus taking the remaining profit as distributions. Distributions avoid the 15.3 percent FICA payroll tax and may qualify for the 20 percent QBI deduction. This combination minimizes total tax burden while staying compliant. Consult a CPA to optimize the salary-to-distribution ratio for your specific situation.
Is it a red flag for an S Corp owner not to take salary or distributions in the first year?
Yes, taking zero salary as an active owner is a significant IRS red flag. If your S Corp is not yet profitable, you may not take distributions, but you should still document why no salary was paid. If you perform services and the business has income, the IRS expects reasonable wages. Taking distributions without any salary is virtually guaranteed to trigger scrutiny.
Can I pay myself a salary from my S Corp?
Yes, and if you provide services to the S Corp, you are required to pay yourself a salary. The salary must be reasonable based on market rates for your role and processed through formal payroll with proper tax withholdings. You receive a Form W-2 at year-end just like any employee. This salary is the foundation of compliant S Corp compensation.
Do S Corp owners pay self-employment tax on distributions?
No. S Corp distributions are not subject to self-employment tax or FICA payroll taxes. This is the primary tax advantage of S Corp status. Only your W-2 salary is subject to payroll taxes. However, distributions are still subject to ordinary federal and state income tax, and you must make quarterly estimated tax payments to cover the income tax on distribution income.
Conclusion
Knowing how to pay yourself from an S Corp is the difference between saving thousands in taxes and facing costly IRS penalties. The formula is straightforward: research your market salary, document your methodology, run proper payroll, and distribute the remaining profit as shareholder distributions.
Start with the 60/40 rule as a baseline, validate your salary against BLS and industry data, and adjust based on your specific role and circumstances. Keep thorough records, file your forms on time, and revisit your salary determination annually as your business grows.
When in doubt, work with a CPA who specializes in S Corp taxation. The few hundred dollars you spend on professional guidance can save you tens of thousands in audit penalties and back taxes. Your S Corp election was a smart business decision. Now make sure your compensation strategy lives up to that potential.