How to Pay Yourself as an S-Corp and Save BIG on Taxes

If you're running an S-Corp, you've probably heard that you can save thousands on taxes by paying yourself the "right way." That's true, but most business owners get confused about how this works.

So, how do you pay yourself as an S-Corp? 

Essentially, you should pay yourself a reasonable salary through W-2 wages, and then take the rest of your profits as distributions. This setup lets you avoid paying 15.3% self-employment tax on a large portion of your income.

Let's take a closer look at how this works:

How S-Corp Compensation Works

When you operate as a sole proprietor or LLC taxed as a partnership, you pay self-employment tax on every dollar of profit your business makes. That's 15.3% right off the top, with 12.4% for Social Security and 2.9% for Medicare.

With an S-Corp, you only pay these payroll taxes on your W-2 salary.

The rest of your profits come out as distributions, which aren't subject to self-employment tax. They are your share of the business profits after you've paid yourself a salary, and they go directly into your personal bank account.

In other words, if your business nets $100,000 and you pay yourself a $50,000 salary, you just saved $7,650 in payroll taxes on that other $50,000.

🧾 PSSST! Wondering if an S-Corp makes sense for YOUR small business?! Get a quick answer using this FREE S-Corp Calculator! 

So, What Is the Best Way to Pay Yourself as an S-Corp?

Paying yourself as an S-Corp owner has three steps: determining your reasonable salary, running that salary through payroll, and taking the remaining profits as distributions.

1. Figure Out Your Reasonable Salary

Your reasonable salary should match what someone else would earn doing your job in your industry and location. Check sites like Glassdoor, Salary.com, or PayScale for your role and area. In other words, if you're a marketing consultant in Denver, look up what marketing consultants earn in Denver.

Usually, a safe approach is 40-60% of your net business income as salary, but this varies by industry. Learn more about paying yourself as a business owner.

2. Set Up Payroll for Your Salary

Once you know your salary, run your S-Corp payroll.

You can use payroll software like Gusto, QuickBooks Payroll, or ADP. These platforms handle tax calculations, withholdings, and filing automatically.

The software will withhold federal income tax, Social Security, Medicare, and state income tax from each paycheck. Your business also pays its share of payroll taxes.

3. Take Distributions

After you've paid yourself a reasonable salary, take the remaining profits as distributions. You can transfer money directly from your business bank account to your personal account.

However, you must track every distribution with dates and amounts. Most S-Corp owners take distributions monthly or quarterly to keep records organized.

Also, your distributions can't exceed your basis in the company (your initial investment plus business income minus previous distributions and losses). If you exceed your basis, the excess gets taxed as capital gains.

And of course, don't forget that you'll owe income tax on all S-Corp profits when you file your personal return, so set aside money for that tax bill.

Learn more about the difference between payroll and income taxes.

Paying Yourself as an S-Corp Owner Example

Let's visualize how paying yourself as an S-Corp works with real numbers.

For example, your consulting business nets $120,000 in profit. Based on research, you set $70,000 as a reasonable compensation for your salary.

As a sole proprietor:

• Net profit: $120,000

• Self-employment tax (15.3%): $16,874

As an S-Corp:

• Salary: $70,000

• Distributions: $50,000

• Payroll taxes on salary: $10,710

• Payroll taxes on distributions: $0

Your savings: $6,164

Both ways you pay income tax on the full $120,000, but you eliminate payroll taxes on the $50,000 distribution.

When Does an S-Corp Make Sense?

The break-even point typically falls around $60,000-$80,000 in net business income.

S-Corps have extra costs, such as payroll processing, higher accounting fees, and state fees in some locations.

At $60,000 net income with a $40,000 salary and $20,000 distribution, you save about $3,060, which is roughly break-even after S-Corp costs. But at $100,000 net income with a $60,000 salary and $40,000 distribution, you save about $6,120, which is clearly worth it.

Want to get a personalized answer whether an S-Corp is worth it for your business? Use this FREE S-Corp Calculator! 

Common Mistakes with Your S-Corp Salary

Paying yourself as an S-Corp owner can be relatively straightforward (especially with proper guidance from a tax professional), but make sure to avoid these mistakes:

• Setting salary too low: Paying yourself $30,000 when your industry standard is $80,000 will trigger IRS scrutiny.

• Taking only distributions: Skipping payroll entirely violates IRS rules, and they'll reclassify everything as wages.

• Inconsistent payroll: You should run payroll on a regular schedule.

• No documentation: Keep records of salary surveys and industry data showing how you determined your reasonable salary.

• Exceeding your basis: Only take distributions up to your basis in the company because anything over gets taxed as capital gains.

Many small business owners benefit from working with a tax professional to help them set up a system that minimizes Social Security taxes and Medicare taxes without breaking any IRS rules.

Start Saving Thousands in Taxes with a Clear Strategy

Paying yourself correctly as an S-Corp can help reduce your tax burden as a business owner, but there are dozens of other legitimate deductions, credits, and tax planning opportunities you might be missing.

At Desi Tax, we help small business owners uncover tax-saving strategies, stay compliant year-round, and make informed decisions about their money.

Learn more about our tax planning and bookkeeping services or book a call to connect with a Desi Tax expert!