An S-corp owner who works in the business has to pay themself a reasonable salary through payroll before taking any other profit out as distributions. “Reasonable” means roughly what the business would pay someone else to do the same job. There is no IRS formula or percentage: the number comes from your role, your hours and what comparable people earn, and it is the most scrutinized figure in an S-corp return, because everything above it escapes payroll tax.
Why the salary matters
As a sole proprietor or default LLC, all of your profit carries 15.3% self-employment tax. Once the business is taxed as an S corporation, only the salary carries the matching payroll tax (7.65% withheld from you, 7.65% paid by the company); the rest of the profit can be paid out as a distribution with no payroll tax on it. Income tax is the same either way. So a lower salary means a bigger saving, and that is exactly why the IRS checks it.
What the IRS looks at
The law gives no figure. Courts decide on the facts, and the IRS lists the factors they weigh:
- your training and experience;
- your duties and responsibilities;
- the time and effort you put into the business;
- what comparable businesses pay for comparable services;
- what non-owner employees are paid, and the business’s dividend history;
- compensation agreements and any formula you used.
The IRS also asks where the money comes from. Profit produced by your own personal services points to wages; profit produced by staff, equipment or capital doesn’t. In a 2012 federal appeals case, an accountant who paid himself $24,000 while taking far larger distributions had his salary reset to about $91,000, the going rate for his work, with the payroll tax due on the difference.
The 60/40 rule, and other shortcuts
You will read that salary should be 60% of profit and distributions 40%, or a third and two thirds. None of these comes from the IRS or a court. A designer whose firm earns $90,000 entirely from her own work may need a salary close to all of it; an owner whose two employees produce most of the profit may defend a much smaller share. Use market pay for the job, not a ratio.
What it saves, worked through
| Set-up | Payroll or SE tax |
|---|---|
| Sole proprietor or LLC | $16,955 |
| S-corp, $70k salary | $10,710 |
| S-corp, $40k salary | $6,120 |
A sole proprietor pays self-employment tax on 92.35% of profit; an S-corp owner pays payroll tax only on the salary. At a $70,000 salary the saving is about $6,200 a year before the S-corp’s running costs: payroll software, a separate business return and usually an accountant, often $1,500 to $3,000. The $40,000 line saves more on paper, but if $70,000 is the defensible figure, that extra is the part the IRS can take back with penalties. Our S-corp tax savings calculator runs the full comparison, income tax included, for your own profit and salary.
Setting yours
- Price the job, not the owner. Look up pay for your role and region in the Bureau of Labor Statistics wage data or salary surveys, adjusted for your hours.
- Pay it through real payroll, on a schedule, with withholding and quarterly payroll returns, before taking distributions.
- Write it down. A one-page note with your sources and reasoning is what you show if the number is ever questioned.
- Revisit it each year as profit and your role change.
Still deciding whether to elect at all? The S-corp election guide covers when it pays and what it costs to run.
Questions, answered
What is a reasonable salary for an S-corp owner?
Roughly what the business would have to pay someone else to do the work you do, based on your duties, hours, experience and what comparable businesses pay. There is no IRS percentage.
Is the 60/40 salary to distribution rule real?
No. It is a rule of thumb that appears online; neither the IRS nor the courts use it. A business whose profit comes from the owner’s own work may need a salary close to all of its profit.
What happens if my S-corp salary is too low?
The IRS can reclassify distributions as wages and charge the employment taxes that should have been paid, plus penalties and interest.
Can an S-corp owner take only distributions and no salary?
Not if the owner works in the business and it has profit to pay with. Officers who provide services must be paid reasonable compensation as wages before distributions.
Sources
- S corporation compensation and medical insurance issues — IRS. The reasonable compensation factors and where the income comes from.
- Wage Compensation for S Corporation Officers (FS-2008-25, PDF) — IRS. Why distributions can be reclassified as wages.
- Paying yourself — IRS. How owners of each business type are paid.
- Contribution and benefit base — Social Security Administration. The 2026 wage base of $184,500.
