S-Corp Reasonable Salary

[Ryan O.]

I understand as a shareholder of an S-Corp you are supposed to pay yourself a reasonable salary for work performed on behalf of the business. You cannot pay distributions until you first pay yourself a salary.

But, what about if you don't take any money out of the business or you take very little out, and treat that as salary. I was reading IRS fact sheet 2008-25 and it would seem to me that the IRS cannot compel someone to take a salary. What do our resident tax gurus have to say about this?

[James Park]

The general rule of thumb I use is 40% salary and 60% distribution. For example, if i make $100,000 my first year as a real estate agent and operated my business as an S-Corp, I would pay myself $40,000 and $60,000 as distribution (k1). I would pay social security and medicare only on $40,000 and not on the $60,000 in distribution. Social security and medicare is 15.3% on $40,000 which is $6120. Suppose you ended up with a bad CPA and he told you to W2 yourself on the full $100k which happened to me operating an S Corp my first year. You will end up paying $15,300 in social security and medicare. By paying yourself a salary of $40,000 and distribution of $60,000 you will be saving $9180 on ss and medicare. This is one of the great benefits of operating as an S Corp. The average real estate agent makes only $40,000 a year, but the top 1% makes over half a million dollars a year.