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S-Corp Reasonable Comp

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  • S-Corp Reasonable Comp

    I'm getting wildly different opinions on whether an S-Corp makes sense and what reasonable salary should be. My single-member S-Corp is a partner in larger multi-specialty partnership. The partnership has a lot of employees (non-owners) that generate revenue for the multi-specialty partnership and are paid by the partnership. The owners are generally S-Corps. I want to make sure that I set my S-Corp salary at something reasonable.

    One CPA said I need to take everything I make as salary because I am the only owner of the S-Corp. Another said I can take up to 60-70% as a distribution. Another said 40-50%. This is such a grey area, and so many CPAs differ in their opinions, I am not sure where to start, and I don't want to get in trouble with the IRS.

    A large part of my (aka the S-Corp's) compensation from the partnership is due to the labor of others. In other words, per the compensation matrix with our partnership, I perform services for the partnership and generate money, for which I am paid through my S-Corp. But, I also get a % of gross revenue (as guaranteed payments) that is generated by employees in other specialties/fields that I am not directly involved in. The partnership pays that to my S-Corp as a guaranteed payment.

    Based on current calculations, I can set my salary above the Social Security Max, and still save about 4-10k in medicare taxes, net of the extra admin costs. That's a decent chunk of change, but I'm still worried an IRS agent could look at that and say it isn't reasonable. How are other S-Corp owners figuring out what reasonable comp is? Do you just rely on your CPA and hope for the best?

  • #2
    I'm not a CPA but I don't think reasonable compensation can be calculated based on a percentage like the CPAs you spoke to seem to suggest. What's a reasonable compensation for your specialty?

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    • #3
      Originally posted by CordMcNally View Post
      I'm not a CPA but I don't think reasonable compensation can be calculated based on a percentage like the CPAs you spoke to seem to suggest. What's a reasonable compensation for your specialty?
      Its all over the place. I could likely make a lot more if I went out on my own, but that would come with admin headaches, dealing with employees, etc. This is what makes the S-Corp calculation so difficult.

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      • #4
        Originally posted by SadlerMDInvestor View Post

        Its all over the place. I could likely make a lot more if I went out on my own, but that would come with admin headaches, dealing with employees, etc. This is what makes the S-Corp calculation so difficult.
        How is a reasonable compensation all over the place? The thing with reasonable compensation is that nothing is set in stone. There are no specific guidelines but here is a document from the IRS: IR-2003- (irs.gov)

        Pick something reasonable that can be defended, if need be. Here is what a sage person recently said regarding this:

        Originally posted by spiritrider View Post
        However, over the last ~15 years the IRS guidance and enforcement has been based an S-Corp 2% shareholder-employee being paid reasonable compensation based on a set of factors. Over the last ~12 years the courts have consistently held that the single most important factor in determining reasonable compensation, is what W-2 wages would an employee with your knowledge, skills and experience receive.
        Your specialty and your S-Corp income could help guide generalities.

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        • #5
          Need to know your specialty. Look at the average salary your specialty earns. Use that as your base salary.

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          • #6
            Even averages salaries of a specialty are just the mean salary of that pool of individuals. An individual's specific facts and circumstances determines their specific reasonable compensation.

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            • #7
              Based on what you’ve told us, in your shoes I would consider taking the revenue that is directly from the services that I provide as W2, and I’d take the ancillary and other income (from other people’s work) as a distribution. How does that look for you from a numbers standpoint?

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              • #8
                My CPA handles a lot of physician practices. On his recommendation, I take 350k as W2 salary, which is in a somewhat reasonable mid-range for my specialty (likely ~40th percentile), and the rest I take as distributions.

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                • #9
                  Hearing other CPAs recommending a salary be set as a percentage of income always irks me, especially saying that 100% needs to be paid out as salary. There's not a single court case on the topic that supports that approach.

                  The best and most defensible approach is to look at what others are making in your specialty and set it close to there. You can adjust for things like location and what percentage of full-time you're working.

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                  • #10
                    What did you decide? Impo, it is important to be document you did not tie your salary to an amount that will save you a certain amount of Medicare taxes, but that you set it according to reasonable facts and circumstances. If you are paying yourself low- to mid-range for your specialty and location because you are relying upon the work of others to generate income rather than yourself alone, I believe that you are far more likely to have a justifiable argument. There is no specific formula and that is why it is such a grey area - rightfully so, in my opinion.

                    But don’t get hung up on that - believe it or not, the IRS is typically reasonable in an audit (at least impo) and, as long as you can show that you have a reasonable basis for your calculation and have followed it consistently, you are far more likely to be just fine. Pick an amount, write up your justification for your records (preferably documented in shareholder meeting notes) and a reasonable ongoing inflation rate, and move on to saving lives.
                    Our passion is protecting clients and others from predatory and ignorant advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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