... In The Business For Your Success
Congratulations ! You ’ re a small business owner . Although you may have worked for free during your start-up days , it ’ s time to pay yourself for your efforts . You generally have two options for taking home a paycheck : a salary and / or a draw based on the structure of your business .
Your Payday
If you are an officer in a corporation , the law says you must be on the payroll and receive regular checks that include withholdings for Social Security , Medicare , federal income taxes , and state income taxes in states that require them .
If your company is legally structured as an S Corporation , you must receive regular paychecks with those same withholdings , but you also have the option of taking additional money beyond your salary in the form of a draw or distribution . Checks for draws and distributions are written without withholding the taxes that are taken out of a regular payroll check but Federal tax bills need to be accounted for come tax filing season . So , how do you decide how much to take as a salary and how much to take as a draw ?
Reasonable Compensation
As far as your salary goes , the IRS requires you to earn reasonable compensation for the type of work that you ’ re doing . As a guideline , the government suggests choosing an amount similar to what another business would pay someone to do what you do . Before you start cutting checks to yourself , you need to carefully consider the total amount of your salary and draws . Owners of S Corporations have come under increased scrutiny the past several years , as they typically prefer to take draws rather than payroll to avoid paying the associated payroll taxes . It ’ s imperative for business owners to understand the position the IRS takes on reasonable compensation . One of the largest financial risks to entrepreneurs is penalties and interest for incorrect payroll-tax reporting .
Sole Proprietors and Partners
Sole proprietors and members of partnerships are free to pay themselves — or otherwise take the profits out of their businesses — whenever they ’ d like . Payroll withholdings do not apply , but each individual essentially pays the equivalent on his or her reported income at tax time .
For better financial organization , small-business owners who are sole proprietors or partners should consider paying themselves some kind of salary on a regular basis . A regularly scheduled payment from the business account to the owner helps to establish a clearer picture of what the company costs to run . When paying yourself a draw , you must consider the eventual tax bill . You can implement a system as simple as keeping the cash to pay taxes in an envelope for later , writing monthly checks to the IRS , or making quarterly estimated tax payments . Deciding how much to pay yourself , and whether to take the money as a salary or as a draw , requires careful consideration . Let me guide you through making the right choices to lower your tax season tax bill .
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