The IRS states specifically that corporate officers are employees and that companies must comply with all employment laws in relation to these employees, including:
- Paying payroll taxes on their salaries and withholding federal and state income tax from these salaries
- Paying unemployment taxes and workers compensation taxes on the salaries
The IRS notes in its August 2008 article Wage Compensation for S Corporation Officers, "The fact that an officer is also a shareholder does not change the requirement that payments to the corporate officer be treated as wages."
What is a reasonable salary?
The IRS guidelines suggest you look at the following factors to determine "reasonable" salaries for your corporate officers:
- Training and experience
- Duties and responsibilities
- Time and effort devoted to the business
- Dividend history
- Payments to non-shareholder employees
- Timing and manner of paying bonuses to key people
- What comparable businesses pay for similar services
- Compensation agreements
- The use of a formula to determine compensation
Using Comparable Salaries
Another way to determine a reasonable salary for corporate officers is to look at what other companies of similar size and type pay for such services. Check on websites like The Ladders and Salary.com for comparable positions, or engage the services of a compensation consultant.
Your ability to substantiate the salaries you are paying to top executives and corporate officers will help keep you on the right side of the IRS when it comes time for them to review your company's tax returns.