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Richardson TX - S-Corporation Shareholders & Reasonable Compensation
Many small businesses elect to file income taxes as S-Corporations. As an S-Corporation, income taxes are not paid at the corporate level as C-Corporations are, but flow to the personal tax returns of their shareholders, where taxes are reported and paid.
One of the perceived advantages of electing S-Corporation status for a business is the ability to avoid or minimize self-employment taxes on earnings or a part of earnings. How does this work? An S-Corporation shareholder may be both an Shareholder/Investor and an employee of the business. As an employee, they should be paid wages for their services, just as any other employee would be paid. The wages are subject to both income taxes and Social Security and Medicare taxes. As shareholder, they receive a Form K-1 for their portion of the profits. For the K-1 Income, the shareholder will pay income taxes, but the income is not subject to Social Security or Medicare taxes.
For this reason, S-Corporation shareholders will want most, if not all of their income, as K-1 income. Is this acceptable? Perhaps, but only if the calculation of Reasonable Compensation supports it as such. The government requires that the S-Corporation pay the shareholder/employee Reasonable Compensation for the services that they ... more
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