Basic Self Employment Tax Difference S-Corporation or Sole Proprietor (Schedule C/Single Member LLC)
In our example, the owner used written resources and webpages, as well as information gathered from others in the industry. They then decided on a reasonable wage for their work, if they were to hire an employee to do the job.
***This example is only to show the basic differences in Self-Employment tax between these entity types, and is not an accounting guide or to be used for any legal purpose. The amounts shown do not include unemployment or worker’s compensation.***
Wages need to follow IRS guidelines for “Reasonable Compensation”. The following is taken from the IRS website and may be a good starting point for deciding what that is for the owner of your business if you choose to be a corporation:
“Because an officer of a corporation is generally an employee with wages subject to withholding, corporate officers may question what is considered reasonable compensation for the efforts they contribute to conducting their trade or business. Wages paid to you as an officer of a corporation should generally be commensurate with your duties. Refer to “Employee’s Pay, Tests for Deducting Pay” in Publication 535, Business Expenses for more information. Public libraries may have reference sources that provide averages of compensation paid for various types of services. The Internal Revenue Service may determine that adjustments must be made to the income and expenses of tax returns for both the corporation and an individual shareholder if the officer is substantially underpaid for services provided.“