Reasonable Compensation

C-Corporations. If you pay yourself too much payroll, the IRS may claim that part of the payments should have been dividends. If the auditor reclassifies, it will lead to double taxation.

S-Corporations. If you pay yourself too little payroll, the IRS may claim that part of the other payments to yourself should not have been classified as shareholder distributions. If the IRS auditor reclassifies part or all of these distributions as payroll, it will lead to additional Social Security and Medicare payroll taxes and substantial penalties. If you have paid yourself less payroll than the amount you have taken in draws or distributions, you should rectify this with bonuses before the end of the year.

Partnerships, Proprietorships, and Single-Member LLCs. You are not allowed to pay yourself payroll. Instead you are only allowed to take draws, distributions, or guaranteed payments that are not subject to withholding, so you may be short on April 15th without enough paid in.

Reasonableness of compensation is tricky, so you may need to get some professional help on this prior to the end of the year.

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