As you probably know, October is tax planning month for us at Team Holly. We’ve already posted some blogs about what kinds of financial decisions might warrant a call to your CPA (so you can assess the tax impacts of your choices), and some investment tax planning strategies. So what do S-Corp payroll and tax planning have in common??
Most S-Corp owners understand that their ‘distributions,’ or withdrawals from their companies, are not taxed. Instead, S-Corps have what’s known as ‘pass-through taxation,’ meaning the owner is taxed on the company’s net income and the company pays no tax itself. So with such a potentially sweet setup tax-wise, why on earth would an S-Corp owner take payroll???
Here are 4 fantastic reasons to plan to give yourself a paycheck as an S-Corp owner:
1) A paycheck = an expense to the company.
Well, DUH, we hear you thinking! So why do you want another company expense?? Because your tax bill as an S-Corp owner is based on the company’s net income. That is income after expenses. So if you pay yourself payroll and related taxes, you will ultimately be lowering your taxes associated with the business’s net income. As an added bonus, whatever federal withholdings were taken out of your paycheck offset your tax liability in April, making your personal tax bill more palatable!
2) A paycheck = the self-employed health insurance deduction.
If you pay yourself a wage through your S-Corp, and add the cost of your individual health insurance premiums to your paycheck so that payroll taxes apply (we can help you with this if it sounds confusing), your insurance premiums paid then become a deduction for your Adjusted Gross Income on your 1040. This is a potentially tremendous benefit to the S-Corp owner! (Note, this does not apply to group coverage.) But you MUST pay yourself a salary and have your premiums taxed in order to take advantage of this rule.
3) A paycheck = social security at retirement.
We can’t tell you how often we have S-Corp owner clients who call us when they get their annual social security statement. They panic when they see their benefit at retirement age is either low or null. “What’s going on??? Why don’t I have any social security coming? This must be a mistake! I hate the government!” Listen, the social security formula is really simple: you don’t get any if you don’t pay into the system! And how do you pay in? You guessed it: payroll taxes applied to your paycheck. So don’t screw yourself out of federal retirement compensation in the future just because you don’t want to pay a little payroll tax now. If you do, you might be working (just so you can have benefits!) until you die.
4) A paycheck = less chance of an audit.
Every year at our tax and continuing education seminars, we hear more and more stories about S-Corp owners who failed to take payroll being nailed by the IRS with an audit. Should that happen to you, please be aware that ALL of your distributions in prior tax years may be ‘recharacterized’ as payroll and you can owe tens of thousands of dollars in back payroll taxes. That is not a bill we want you to have to pay. The IRS has said for several years that S-Corp owners must take “reasonable compensation” in the form of payroll along with distributions. In other words, there’s no free lunch forever. If you ignore this advice, you may not only be setting yourself up for an audit, but you may be setting yourself up for one of the largest tax bills you’ve ever seen. Is it really worth it??? We don’t think so.
So, yeah, tax planning and payroll do have some things in common. Team Holly CPA offers full-service payroll in every state in the US. If you’d like us to help you set up your payroll before the end of the year, there is still time! Contact us now for a free consultation.
Lower your taxes, lower your risk, pay your future self. The truth is easy to see: paychecks really do pay!