Too little can create compliance risk. Too much can cost you in tax savings. And simply picking a number isn’t enough.
If you own an S corporation and actively work in the business, your salary isn’t just another payroll number. It’s an important, recurring decision that should maximize the benefits of your tax election while keeping you compliant.
Many business owners know they should pay themselves a reasonable salary, but few know what that means. Some intentionally keep their wages artificially low. Others play it safe by paying themselves more than necessary. Many simply keep the same salary year after year without revisiting whether it still reflects the business they’ve built.
The truth is that reasonable compensation isn’t determined by random guesswork, predetermined percentages, or annual profits.
Your compensation should reflect the work you actually perform, and you should to be able to support how you arrived at it.
At Candella Accounting & Advisory Services, we help S corporation owners evaluate whether their compensation strategy is both tax-conscious and IRS compliant, giving them greater confidence that they’re neither exposing themselves to unnecessary risk nor leaving money on the table.
Wondering whether your current salary is appropriate?
Why Does My Salary Matter?
One of the primary tax advantages of an S corporation is that business owners can generally receive income in two forms:
- W-2 wages
- Shareholder distributions
Wages are generally subject to payroll taxes. Distributions usually are not.
This distinction is one reason many business owners choose the S corporation structure in the first place. But it’s also why the IRS pays close attention to owner salaries.
If you actively provide services to your S corp, the IRS expects you to receive reasonable compensation for those services before taking any shareholder distributions.
The objective isn’t to eliminate distributions or maximize wages.
You need a compensation strategy that accurately reflects the value of your work while preserving the legitimate tax advantages available to S corporation owners.
There is risk on both sides.
If your salary is too low, the IRS may determine that some of your distributions should have been treated as wages. That could result in additional payroll taxes, penalties, and interest.
If your salary is too high, you may be paying more payroll tax than necessary and reducing one of the primary financial benefits of operating as an S corporation.
The goal is to find the right salary for you as an owner-contributor.
How Do I Know What’s Reasonable?
Unfortunately, there isn’t a simple compensation calculator that provides the answer.
Reasonable compensation depends on the specific circumstances of your business. Your work-related contributions in the business play a significant role.
When evaluating reasonable compensation, factors may include:
- Your day-to-day responsibilities
- The number of hours you work
- Your experience or specialized expertise
- Your leadership responsibilities
- The size and profitability of the business
- Industry compensation data
- Geographic market wages
- Comparable positions
For many owners, these factors change over time.
The salary that made sense when your business generated $100,000 in revenue may no longer be appropriate at $1 million. Likewise, an owner who once handled every aspect of the business may now spend most of their time leading people, managing strategy, or developing new business.
As your business changes, your compensation should be reviewed as well.
Can I Defend my Current Number?
If you’re like many business owners who’ve been asked about their owner compensation, you might reply by saying something like:
“That’s what we’ve always paid.”
“That’s what my accountant recommended a few years ago.”
“It seemed about right.”
Unfortunately, those aren’t the strongest foundations for one of your company’s most important tax decisions. A well-supported compensation strategy isn’t simply about arriving at a number. It’s about having a reasonable process behind that number.
That’s where professional guidance can make a meaningful difference.
At Candella Accounting & Advisory Services, we help business owners evaluate their compensation using the factors that matter, while removing assumptions and outdated information.
Our reasonable compensation review may include:
- Reviewing your current salary and distributions
- Evaluating your role within the business
- Comparing compensation with current market data
- Considering changes in your business
- Identifying ways to improve compliance and tax efficiency
- Documenting your compensation rationale
Our job isn’t simply to tell you whether your salary is “right.”
It’s to help you understand why it is, or why it may need to change.
Confidence Is Better Than Guesswork
If you haven’t reviewed your salary in several years…
If your business has grown…
If your responsibilities have changed…
Or if you’ve never been sure whether your compensation is actually reasonable…
Now is the right time to take a closer look.
A thoughtful review today can help you avoid unnecessary tax exposure, preserve the benefits of your S corporation, and move forward with greater confidence.
Ready to start the conversation?
Is there a formula the IRS uses to determine reasonable compensation?
No. The IRS does not prescribe a fixed percentage, salary table, or universal formula. Instead, reasonable compensation is based on the facts and circumstances of your business, including your role, responsibilities, experience, time devoted to the company, industry standards, and comparable market compensation.
Can I simply pay myself a low salary and take the rest as distributions?
Not if you’re actively working in the business.
While shareholder distributions are an important tax advantage of an S corporation, the IRS generally expects shareholder-employees to receive reasonable compensation for the services they perform before taking distributions. Paying an artificially low salary may increase the risk that distributions could be reclassified as wages.
What happens if my salary is too low?
If the IRS determines your compensation was not reasonable, it may reclassify a portion of your distributions as wages. Depending on the circumstances, that could result in additional payroll taxes, penalties, and interest.
Can my salary be too high?
Yes.
While much of the discussion focuses on underpaying yourself, paying substantially more than reasonable compensation may reduce one of the primary tax advantages of operating as an S corporation by unnecessarily increasing payroll taxes.
The objective isn’t the highest or lowest salary—it’s the right one.
How often should I review my compensation?
At a minimum, we recommend reviewing owner compensation annually.
You should also consider a review whenever your business experiences significant growth, profitability changes, major shifts in your responsibilities, or changes in the amount of time you spend working in the business.
Can I change my salary during the year?
In many cases, yes.
Depending on your circumstances, payroll adjustments can often be made during the year as your business evolves. The appropriate approach depends on your payroll history, compensation already paid, and your overall tax planning strategy.
How does Candella determine whether my compensation is reasonable?
Our review considers the complete picture—not just your business income.
We evaluate many factors, including your responsibilities, hours worked, experience, comparable compensation, company performance, and payroll structure. Our aim is to help you arrive at a compensation strategy that is both well-supported and aligned with your overall tax planning.