The IRS can reclassify S-Corp distributions as wages if they determine your salary is unreasonably low. A reasonable compensation study is your documentation defense.
What It Covers
A study typically analyzes your job duties, hours worked, industry comparisons using salary databases, company revenue and profitability, comparable positions in similar-sized NJ businesses, and your training and certifications.
When You Need One
Consider a study if your salary is less than 50% of net income, you’re taking large distributions, revenue exceeds $200,000, or you’re in professional services.
The Cost of Not Having One
If the IRS reclassifies distributions as wages, you face back payroll taxes (both employee and employer shares), penalties, and interest. For a business taking $100,000+ in distributions with a low salary, the liability can easily exceed $20,000.
My Approach
I work with NJ S-Corp owners to set compensation levels that are defensible and documented from day one. When we set up your S-Corp or do annual tax planning, establishing compensation documentation is part of the process.
Disclaimer: The information provided is for general educational purposes only and does not constitute tax, legal, or investment advice. This content is not intended or written to be used, and cannot be used, for the purpose of avoiding penalties under the Internal Revenue Code. Tax outcomes depend on your specific facts and circumstances. Viewing this material does not create a CPA-client relationship. Personalized advice is provided only through a signed engagement letter.
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