Kirsch Kohn Bridge CPAs + Advisors
  • About
    • Firm Overview
    • Our Team
    • Firm News
    • International Affiliation
  • Services
    • Assurance and Accounting
    • Tax
    • Advisory Services
  • Industries
    • Construction
    • Manufacturing and Distribution
    • Not-For-Profits
    • Professional Services
    • Real Estate
    • Retail
    • Technology
  • Insights
  • Careers
  • Contact
  • Client Resources
  • Pay Online
  • Menu Menu
  • LinkedIn

Insights

4 ways corporate business owners can help ensure their compensation is “reasonable”

April 26th, 2023/Tax

If you’re the owner of an incorporated business, you know there’s a tax advantage to taking money out of a C corporation as compensation rather than as dividends. The reason: A corporation can deduct the salaries and bonuses that it pays executives, but not dividend payments. Therefore, if funds are paid as dividends, they’re taxed twice, once to the corporation and once to the recipient. Money paid out as compensation is only taxed once — to the employee who receives it.

However, there are limits to how much money you can take out of the corporation this way. Under tax law, compensation can be deducted only to the extent that it’s reasonable. Any unreasonable portion isn’t deductible and, if paid to a shareholder, may be taxed as if it were a dividend. Keep in mind that the IRS is generally more interested in unreasonable compensation payments made to someone “related” to a corporation, such as a shareholder-employee or a member of a shareholder’s family.

Steps to help protect yourself

There’s no simple way to determine what’s reasonable. If the IRS audits your tax return, it will examine the amount that similar companies would pay for comparable services under similar circumstances. Factors that are taken into account include the employee’s duties and the amount of time spent on those duties, as well as the employee’s skills, expertise and compensation history. Other factors that may be reviewed are the complexities of the business and its gross and net income.

There are four steps you can take to make it more likely that the compensation you earn will be considered “reasonable,” and therefore deductible by your corporation:

  1. Keep compensation in line with what similar businesses are paying their executives (and keep whatever evidence you can get of what others are paying to support what you pay).
  2. In the minutes of your corporation’s board of directors’ meetings, contemporaneously document the reasons for compensation paid. For example, if compensation is being increased in the current year to make up for earlier years in which it was low, be sure that the minutes reflect this. (Ideally, the minutes for the earlier years should reflect that the compensation paid then was at a reduced rate.) Cite any executive compensation or industry studies that back up your compensation amounts.
  3. Avoid paying compensation in direct proportion to the stock owned by the corporation’s shareholders. This looks too much like a disguised dividend and will probably be treated as such by the IRS.
  4. If the business is profitable, pay at least some dividends. This avoids giving the impression that the corporation is trying to pay out all of its profits as compensation.

You can avoid problems and challenges by planning ahead. Contact us if you have questions or concerns about your situation.

© 2023



 

For more helpful tax and accounting articles, or to sign up for our newsletter, please visit our KKB Insights page. If you have any questions, please contact us.

TAGS: Tax

Share This
  • Share on Facebook
  • Share on Twitter
  • Share on LinkedIn
  • Share by Mail

Sign Up For Insights

"*" indicates required fields

This field is for validation purposes and should be left unchanged.

Categories

  • Accounting
  • Advisory
  • Assurance
  • Firm News
  • Tax

Archives

  • May 2023
  • April 2023
  • March 2023
  • February 2023
  • January 2023
  • December 2022
  • November 2022
  • October 2022
  • September 2022
  • August 2022
  • July 2022
  • June 2022
  • May 2022
  • April 2022
  • March 2022
  • February 2022
  • January 2022
  • December 2021
  • November 2021
  • October 2021

Insights

Achieving the right balance of working capital

May 24, 2023/in Tax/by KKB CPAs

Do you know the three keys to lowering your company’s working capital requirements? Continue Reading Achieving the right balance of working capital

Read more
https://kkbcpa.com/wp-content/uploads/2023/05/1-1.jpg 292 560 KKB CPAs https://kkbcpa.com/wp-content/uploads/2021/12/KKB-Logo-w-text.png KKB CPAs2023-05-24 14:41:292023-05-24 14:41:31Achieving the right balance of working capital

Questions you may still have after filing your tax return

May 10, 2023/in Tax/by KKB CPAs

Even if you filed your 2022 tax return by the deadline, you may still have questions. We’re often asked about refund status, how long to keep records and when an amended tax return should be filed. Here are some answers. Continue Reading Questions you may still have after filing your tax return

Read more
https://kkbcpa.com/wp-content/uploads/2023/05/1.jpg 292 560 KKB CPAs https://kkbcpa.com/wp-content/uploads/2021/12/KKB-Logo-w-text.png KKB CPAs2023-05-10 10:50:112023-05-10 10:50:14Questions you may still have after filing your tax return

4 ways corporate business owners can help ensure their compensation is “reasonable”

April 26, 2023/in Tax/by KKB CPAs

C corporation owners: To keep your compensation tax deductible, you need to ensure it’s “reasonable.” Otherwise, it could be deemed a dividend. Here are four steps to take. Continue Reading 4 ways corporate business owners can help ensure their compensation is “reasonable”

Read more
https://kkbcpa.com/wp-content/uploads/2023/04/1-1.jpg 292 560 KKB CPAs https://kkbcpa.com/wp-content/uploads/2021/12/KKB-Logo-w-text.png KKB CPAs2023-04-26 12:28:162023-04-26 12:28:204 ways corporate business owners can help ensure their compensation is “reasonable”

Questions you may still have after filing your tax return

May 10, 2023/in Tax/by KKB CPAs
Read more
https://kkbcpa.com/wp-content/uploads/2023/05/1.jpg 292 560 KKB CPAs https://kkbcpa.com/wp-content/uploads/2021/12/KKB-Logo-w-text.png KKB CPAs2023-05-10 10:50:112023-05-10 10:50:14Questions you may still have after filing your tax return

4 ways corporate business owners can help ensure their compensation is “reasonable”

April 26, 2023/in Tax/by KKB CPAs
Read more
https://kkbcpa.com/wp-content/uploads/2023/04/1-1.jpg 292 560 KKB CPAs https://kkbcpa.com/wp-content/uploads/2021/12/KKB-Logo-w-text.png KKB CPAs2023-04-26 12:28:162023-04-26 12:28:204 ways corporate business owners can help ensure their compensation is “reasonable”

New Business Ownership Reporting in 2024

April 20, 2023/in Tax/by KKB CPAs
Read more
https://kkbcpa.com/wp-content/uploads/2023/04/4.jpg 334 500 KKB CPAs https://kkbcpa.com/wp-content/uploads/2021/12/KKB-Logo-w-text.png KKB CPAs2023-04-20 11:08:312023-04-20 11:08:33New Business Ownership Reporting in 2024
View All

Sign up for insights

"*" indicates required fields

This field is for validation purposes and should be left unchanged.
KKB alternate logo

Kirsch Kohn & Bridge LLP

Phone: 818-907-6500
Fax: 818-783-0725
21800 Oxnard St., Suite 900
Woodland Hills, CA 91367
info@kkbcpa.com

Firm Overview
Our Team
International Affiliation
Contact
Careers

Sign up for our newsletter
Client Resources
Pay Online

© 2023 Kirsch Kohn & Bridge LLP. All rights reserved. Privacy Policy

New Business Ownership Reporting in 2024Questions you may still have after filing your tax return
Scroll to top