Should The Business Owner Be On Payroll?
This depends on your business structure:
- If the company is a sole proprietorship or a partnership, there is no need to be on payroll.
- An LLC Owner would normally not be on payroll. Generally, an LLC’s owners cannot be considered employees of their company nor can they receive compensation in the form of wages and salaries. Instead, a single-member LLC’s owner is treated as a sole proprietor for tax purposes, and owners of a multi-member LLC are treated as partners in a general partnership.
- The owner of a single-member LLC withdraws money by taking an “owner’s draw”—writing themselves a business check or (if their bank allows it) transferring money from the LLC bank account to the owner’s personal bank account.
Note: Owner’s draws from an LLC are NOT paychecks. No federal or state income taxes nor Social Security and Medicare taxes are withheld from those payments. Under most circumstances, LLC members must make estimated tax payments every quarter to cover taxes due on their share of the LLC’s profits. The profits are taxed the same (whether they are taken as personal draws or remain in the business’s bank account).
- If the company is an S corp, the owner(s) have to be on payroll legally. The IRS could notice if you don’t pay yourself a payroll. The IRS requires S Corp shareholder-employees to pay themselves a reasonable employee salary, which means at least what other businesses pay for similar services. And if the IRS finds out that you tried to evade payroll taxes by disguising employee salary as corporate distributions, they will have something to say about it.
An S Corp’s remaining profits are paid out in distributions to the company’s shareholders, who then report those distributions on their personal income tax returns. Unlike wages and salaries, distributions are not subject to payroll taxes.
Most CPA’s will recommend paying yourself around half of what you pay yourself total, as payroll and the rest can be distributions. Ask your CPA for your specific tax situation.
- If the company is a C Corp, There is no requirement that the corporation pays them a salary. However, if they do accept payment for their services, the IRS has issued some guidelines that the team should follow. The IRS has said that if a C corporation is distributing profits to its owners and has not hired any other employees, it should follow the 60/40 rule. This rule states that 60 percent of the distribution should be treated as salary—and thus subject to payroll taxes—and the remaining 40 percent as dividends. Please let us know if you need any help getting set up on payroll for your company.
Maya Weinreb | Founder & CEO