Minimum Payroll with December Bonus

By Jason Watson, CPA
Posted Friday, June 28, 2024

Small business owners can face some payroll challenges. First, it can be difficult to determine a salary amount for you on January 1st, because salary amounts are somewhat dependent on your business’ financial health, and that in turn can be impacted by seasonal or unpredictable revenue. Think of a realtor whose sales can vary depending on the time of year, and the roller coaster that is the real estate market. You don’t want to overpay shareholder salaries since every $10,000 in salary is potentially $1,500 in unnecessary payroll taxes. That’s problem #1.

Second, cash flow might be lumpy and bumpy, and therefore monthly payroll processing might strain cash reserves. This is common with realtors, like the example above, but it is also common for a lot of consultants or similar professions where you rely on contracts, invoices, purchase order approvals, partial or installment payments, and all the madness in between. Problem #2.

Last, payroll processing cannot be skipped since some states will close your payroll accounts if you do not process “enough” payroll during the quarter. This in turn creates a mess. Additionally, it is inefficient to turn payroll on and off from month to month. Problem #3.

One solution is to pay a minimum salary of $500 per month to the shareholders on an autopilot system. This solves all the problems listed above. Yay! Next, an off-cycle bonus is paid in December using hindsight to “true up” reasonable salary for the entire year.

Also, the beauty of payroll processing and leveraging it to pay income taxes in lieu of estimated tax payments is that the IRS and the state assume salary and income taxes were paid evenly throughout the year regardless of when payroll was processed and the amounts. This approach prevents underpayment penalties but provides flexibility with your cash plus the ability to earn some interest income.

Here is a summary of how minimum payroll with a December bonus works with WCG-

• We get “mins payroll” going and set on autopilot.

• We chat and determine a high and low business profit expectation so we can loosely determine a tax plan for the year. A payroll plan is also created showing the anticipated annual shareholder salary including the big December off-cycle bonus (what we call the OCB).

• Using the tax plan, we determine a “safety percentage” that you set aside when commissions or payments are received. For example, you receive a $10,000 commission check into your business. You set aside or earmark 25% (let’s say) or $2,500 for the December bonus.

• The remainder is used to pay business expenses and can be taken out as a shareholder distribution. You can also “prepay” your 401k employee contribution to leverage dollar cost averaging (but there is some danger here that we can discuss).

• In November, we chat again and use year to date business profit plus the tiny predicted remaining business profit to help set a reasonable shareholder salary for the entire year. From there, we process the OCB.

Having said that, we prefer to have routine and even salary amounts each month if possible. Minimum payroll processing takes discipline to pay out the December bonus.