If you own an S-Corporation, one of the biggest questions is: “How do I take money out of my business?” It’s a fair question and an important one. Paying yourself the wrong way could lead to IRS penalties, surprise tax bills, or even double taxation.
Here’s a simple breakdown of the three main ways to pay yourself and what you need to know about each.
1. Paying Yourself a Salary
If you work in your business, the IRS requires you to take a reasonable salary. This salary runs through payroll, just like any other employee’s paycheck.
Taxes are withheld, including:
- Social Security (12.4%), split between you and the company.
- Medicare (2.9%), also split.
- Federal & state income tax withholding.
Because it’s payroll, your S-Corp also pays the employer side of Social Security and Medicare, which become deductible expenses to the business.
Example:
If your S-Corp earns $120,000 and you take a $60,000 salary, payroll taxes apply to that $60,000. The remaining profit can come out as distributions (explained below).
The IRS watches for “reasonable compensation.” If you don’t pay yourself a fair wage, they can reclassify your distributions as wages and assess back payroll taxes plus penalties.
2. Taking Distributions
Once you’ve paid yourself a reasonable salary, you can take additional money out of the company as distributions. Distributions are not subject to payroll taxes.
But you will still pay income tax on the company’s profit, whether you actually take a distribution or not.
Example:
If your S-Corp earns $100,000 and you take no distribution, you’ll still report and pay tax on $100,000 because it passes through to your personal tax return.
Distributions are simply a way to withdraw profits tax-efficiently. You’ll always be taxed on your share of profits, even if you leave the money in the business.
3. Shareholder Loans
Your S-Corp can loan you money, but it must look and act like a real loan. Requires a signed agreement, interest, and repayment terms.
If not documented properly, the IRS may treat it as a taxable distribution or wage.
Loans are fine for short-term needs, but they’re not a substitute for salary or distributions.
Quick Summary: Salary vs. Distribution vs. Loan
Here’s a side-by-side view to make it simple:
| Method | How It Works | Taxes Owed | Pros | Cons |
|---|---|---|---|---|
| Salary | Paid through payroll | Payroll taxes (Social Security, Medicare) + income tax | IRS-compliant, helps with retirement/benefits | Increases payroll tax cost |
| Distribution | Cash withdrawal of profits | Income tax only (no payroll tax) | Tax-efficient way to take profits | Must follow ownership %, reduces basis |
| Loan | Money borrowed from S-Corp | None if documented properly | Short-term cash flexibility | Risky if undocumented; must repay with interest |
How Basis Works (and Excess Distributions)
Basis is your “investment” in the S-Corp. It starts with what you contributed and changes each year:
- Goes up when the company makes a profit or you contribute capital.
- Goes down when you take distributions or when the company has losses.
Excess distributions: If you take more money out than you have basis for, the extra is taxed as a capital gain.
Example:
- Basis = $50,000.
- You take $60,000 in distributions.
- First $50,000 is tax-free (basis reduced to zero).
- Extra $10,000 is taxed as a capital gain.
Always track basis so you don’t accidentally create a taxable gain.
FAQs: Common Misunderstandings
No. You’re taxed on profits whether or not you take a distribution.
No. The IRS requiresa “reasonable salary.” Skipping this is one of the most common audit triggers.
No. They reduce your basis, but your taxable income is based on the company’s profit.
No. If you own 40%, you can only take 40% of distributions.
The excess is taxed as a capital gain.
The IRS could treat that as a distribution or wage. Better practice: reimburse yourself properly through an expense report.
Yes, but if you own more than 2%, it must be reported on your W-2. You may still be able to deduct it on your personal return.
Yes, but if it’s compensation for your work, it’s still considered salary and subject to payroll taxes.
Final Thoughts
For most S-Corp owners, the smartest approach is a blend:
- Pay yourself a reasonable salary to stay compliant.
- Take distributions for extra profits, tax-efficiently.
- Use loans, reimbursements, and fringe benefits strategically when appropriate.
And most importantly, track your basis so you don’t create taxable excess distributions by mistake.
Ready to Pay Yourself the Smart Way?
Figuring out how to pay yourself from your S-Corp shouldn’t feel like a guessing game, but for many business owners, it does. That’s where we come in. At TS CPA, we help business owners:
- Set the right salary vs. distribution mix for maximum savings.
- Track & calculate basis to avoid hidden tax traps.
- Build a custom tax strategy that fits your business goals.
- Stay compliant with IRS reasonable compensation rules.
- Design retirement contributions (401(k), SEP, Solo 401(k)) to save more while building wealth.
- Handle reimbursements the right way through an accountable plan.
- Provide ongoing bookkeeping & payroll support so your paychecks and distributions are always in order.
- Offer year-round tax planning, not just tax filing, so there are no surprises at year-end.