Small Business Owners: Pay Yourself Properly

Balancing Passion, Profitability, and Paperwork

Being a small business owner is no small feat. You're constantly juggling your passion, the pursuit of profitability, and not to mention, a mountain of paperwork. Among the myriad of responsibilities, one important task often gets overlooked: deciding how much to pay yourself. It's tempting to wing it, but that's not a step you can afford to handle haphazardly. Your salary decisions impact tax compliance and the long-term health of your business. Let’s ensure we’re getting it right.

The Importance of Reasonable Compensation

A reasonable compensation analysis provides a structured approach to determine an IRS-compliant salary. This isn't just about earning a paycheck; it's about understanding your roles, the time you invest, looking at industry benchmarks, and even regional economic conditions. All these factors feed into what constitutes a justified salary.

Understanding IRS Criteria

The IRS's criteria for what counts as 'reasonable' is comprehensive. They consider your background, job responsibilities, and the profitability of your business. It's essential to know if your wages align with those paid to comparable employees, and how your history of compensation stacks up. Deviating too much could put you at risk.

The Risks of Underpaid Salaries

Paying yourself too little might seem like a great way to save money, but beware—it could be costly in the long run. Reclassified distributions, back taxes, penalties for employment tax errors, or even losing your S corporation status are just some of the consequences. Remember, underpaying is as problematic as overpaying.

Avoiding the '60/40 Rule'

Some business owners lean on shortcuts like the "60/40 rule" to sidestep proper salary determination. The idea is to take a small salary and larger distributions to minimize taxes. Be warned: the IRS doesn't accept blanket strategies. Your approach needs to be tailored, defensible, and fair.

Structured Compensation Strategy: Your Best Defense

A well-thought-out compensation strategy is your best bet for staying compliant and sidestepping audits. Not only does it help maintain alignment with IRS standards, but it also ensures you're fairly remunerated for your hard work. Think of it as an investment in your business's stability and your financial security.

The Road to Compliance and Fair Compensation

Figuring out your salary? It's more than just seeing an amount on a check. It's a crucial aspect of running a compliant, audit-proof enterprise. Take your role seriously. Evaluate if your current compensation fits IRS guidelines. Don’t hesitate to consult a tax professional or advisor. They can provide you with a review of your compensation structure to ensure it's not only defensible and fair but strategic, too.