An S-corp shareholder can expect periodic distributions of income from the corporation and will need to pay taxes on that income, using personal income tax paperwork. In addition, shareholders can be provided with fringe benefits with tax incentives, like deposits into tax-free retirement accounts. People who are shareholders in an S-corporation should be aware that they are required to make quarterly estimated tax payments if they want to avoid tax penalties regardless of whether their distributions have arrived yet.
S-corporations are organized with a pass-through accounting method, where money earned by the company is paid out to the shareholders immediately, in proportions appropriate to their percentage of ownership. Under the tax code in the United States, an S-corporation must have less than 100 shareholders, all of whom agree to the classification as an S-corp, and they must be United States citizens. These shareholder-employees can include friends and family of the corporation’s founders.
Every S-corp shareholder-employee is paid a “reasonable” salary, along with receiving benefits. The salary deemed “reasonable” is not set in stone, but is generally based on what people in similar positions would earn. Someone acting as the chief executive officer, for example, would be expected to have a salary comparable to that of a CEO in a regular corporation. If shareholders are offered unusually low salaries, this will be a red flag for tax authorities, and everyone is expected to get at least some compensation, even when the company is losing money.
The S-corp shareholder incurs tax liability for salary income, as well as distributions of the company’s earnings. People must pay Social Security and Medicare taxes also. An accountant can help people determine their tax liability and generate paperwork for estimated tax payments to make it easy for people to file those payments. If overpayments occur, the excess can be claimed on a tax return and will be returned to the S-corp shareholder by the Internal Revenue Service.
An S-corp shareholder should be aware that even if income is not distributed, there is still a tax liability. Generally, corporations have rules that people must receive enough in their distribution to cover their estimated taxes, to address this possibility. As shareholders, people will also be expected to vote on matters related to the operation of the corporation. It is important to review matters brought to a vote with care, to make sure they are fully understood. If there are questions or concerns, they should be discussed before the vote.