S-corp shareholders receive periodic distributions of income and must pay taxes on it, as well as Social Security and Medicare taxes. They may also receive additional benefits with tax incentives. Shareholders must make quarterly estimated tax payments to avoid penalties, and must receive a “reasonable” salary. Even if income is not distributed, there is still a tax liability. Shareholders are expected to vote on matters related to the corporation’s operation.
An S-corp shareholder can expect periodic distributions of the corporation’s income and will be required to pay taxes on that income, using personal income tax documentation. In addition, shareholders can receive additional benefits with tax incentives, such as deposits in tax-free retirement accounts. Individuals who are shareholders of an S corporation should be aware that they are required to make quarterly estimated tax payments if they wish to avoid tax penalties, regardless of whether their distributions have already arrived.
S corporations are organized using a pass-through method of accounting, where money earned by the company is paid to shareholders immediately, in proportions appropriate to their percentage of ownership. Under the United States tax code, an S corporation must have fewer than 100 shareholders, all of whom accept S-corp classification, and must be United States citizens. These shareholder-employees may include friends and family of the corporation’s founders.
Each S-corp shareholder-employee receives a “reasonable” salary, in addition to receiving benefits. The salary considered “reasonable” is not set in stone, but is generally based on what people in similar positions would earn. Someone who acts as a CEO, 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 receive at least some compensation, even when the company is losing money.
The S-corp shareholder incurs tax liability for salary income, as well as the distribution of the company’s profits. People must also pay Social Security and Medicare taxes. An accountant can help people determine their tax liability and generate documents for estimated tax payments to make it easier for people to submit those payments. If overpayments occur, the excess can be claimed on a tax return and returned to the S-corp shareholder by the Internal Revenue Service.
An S-corp shareholder should be aware that even if the income is not distributed, there is still a tax liability. In general, corporations have rules that individuals must receive enough in their distribution to cover their estimated taxes, to address this possibility. As shareholders, people are also expected to vote on matters related to the operation of the corporation. It is important to review the items put to the vote carefully, to ensure that they are fully understood. If there are questions or concerns, they should be discussed prior to voting.
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