Additional S Corp Salary Considerations
Posted November 23, 2018
Beyond the reasonable salary theories and jumping off points, there are some things to keep in mind as Officer Compensation is determined.
As mentioned before, the 35-40% salary is just a jumping off point. There are several factors that need to be considered and they can be competing. For example, you might want a higher salary to add to your Social Security basis. The first bend point is about $56,000 and the second bend point is $94,000 which are indexed each year for inflation. The first bend point means that you are getting the most credit for the least amount of salary, and it decelerates after $56,000 and almost hits a cliff at $94,000. And as you recall, $137,700 is the maximum wage where Social Security is taxed (for the 2020 tax year).
So a $56,000 salary might be a sweet spot for those wanting more Social Security basis or “credits.” The Social Security’s website calculators are shockingly helpful.
You also might want a higher salary to maximize your i401k plan or solo 401k plan. You can contribute up to $19,500 (for the 2020 tax year) plus $6,500 catchup if 50 or older. Therefore if you are 55 years old you might want your salary to be at least $25,000. There are instances where a $280,000 salary might be the best solution given age-based profit sharing and defined benefits pensions. These small business retirements plans are added to the traditional 401k plan to “turbocharge” them. It seems crazy to want to pay a $280,000 salary when one of the resounding themes is to have a low salary, but there could be significant tax savings. See our chapter dedicated to self-employed retirement plans for more details or this link-
Another competing interest, or at least a factor, is health insurance and HSA contributions. If your self-employed health insurance is $15,000 per year, you must pay yourself at least $15,000 in salary to be able to fully deduct the premiums. Conversely, your health insurance premiums and health savings account (HSA) contributions get added to your W-2 as Box 1 Wages, and will contribute to your reasonable salary testing since they are lumped together to form Officer Compensation on Line 7 of your S Corp tax return. This was discussed in an earlier chapter and there are some examples of how this affects your salary below.
Taxpayer’s Comprehensive Guide to LLCs and S Corps : 2019 Edition
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