S Corp Salary vs. Distributions: How to Pay Yourself

S Corp owners can unlock substantial tax savings by expertly balancing their salary with distributions, allowing them to sidestep the hefty 15.3% payroll tax on those distributions. However, to maintain compliance and maximize these savings, the IRS requires that they draw a 'reasonable salary' aligned with industry standards. Automating this salary-to-distribution calculation, compliance tracking, and payroll filings empowers solopreneurs to optimize their taxes effortlessly.

What if you could legally cut your tax bill by thousands while fully complying with IRS rules? S Corp owners have a unique advantage: income flows through two channels, salary and distributions, each with very different tax treatment. Salary is subject to the full 15.3% payroll tax, while distributions avoid it entirely. That split is the foundation of S Corp tax savings.

The challenge is precision. The IRS requires every S Corp owner to take a “reasonable salary” that reflects fair market pay for their work. Anything above that threshold can be taken as distributions, unlocking savings of $10,000 to $15,000 annually for high-earning solopreneurs. But misclassify your pay, and you risk penalties or an IRS audit.

Lettuce calculates your optimal salary-to-distribution ratio, files the payroll taxes, and keeps every step compliant. Instead of guessing, you get a defensible salary strategy backed by data and automation. Start today with Lettuce and stop overpaying the IRS.

S Corp Salary vs. Distributions

When you elect S Corp tax treatment, your profits avoid double taxation and flow straight to your personal return. But there’s an important twist: you don’t just have one kind of income. You get paid in two distinct ways, and they’re taxed very differently.

• Salary – This is your employee's paycheck. It runs through payroll and gets hit with the full 15.3% employment tax (Social Security and Medicare). You’re both the employer and the employee, paying both sides.

• Distributions – These are your owner’s profits. After expenses and your salary are paid, the leftover profit is distributed to you as a shareholder. Distributions don’t go through payroll and are not subject to that 15.3% employment tax.

That difference adds up quickly. On $100,000 of business profit, shifting a portion into distributions instead of salary could save you $8,000–$10,000 in payroll taxes. But there’s a guardrail in place: the IRS requires every S Corp owner who works in their business to pay themselves a reasonable salary, essentially, what someone with your skills and duties would earn in the same market.

This rule ensures the strategy remains compliant. Take too much as distributions and risk reclassification, back taxes, and penalties. Take too much as salary, and you leave savings on the table. The next step is understanding what counts as a “reasonable salary” and how to determine it for your business.

What Is a Reasonable Salary for an S Corp Owner??

If you’re considering an S Corp, you’ve probably heard the term “reasonable compensation.” In plain English, it’s the salary you pay yourself as an employee of your business.

The IRS requires it because the salary you set determines how much income is subject to payroll taxes and how much can flow through as tax-advantaged distributions.

So, what counts as reasonable? The IRS looks at factors like:

• What someone in your role would earn as a W-2 employee in your industry

• Your experience and skill level

• The number of hours you work in the business

• The financial capacity of your S Corp

A helpful benchmark many solopreneurs use is the 40/60 rule:

• At least 40% of the net profit as salary

• The remaining 60% is distributed

For example, if your business nets $100,000, you’d take a $40,000 salary and $60,000 in distributions. While not an official IRS formula, it provides a practical framework for balancing compliance with tax savings.

The key is to back up your number with data. Salary surveys, Bureau of Labor Statistics reports, and industry benchmarks are defensible evidence. Because your business changes over time, your salary may need to be adjusted.

That’s where process matters. Knowing what counts as reasonable is one thing, but applying it consistently is another.

Here’s how the Lettuce step-by-step approach puts it into practice:

Step 1: Calculate your salary

Lettuce starts with your net business income. A common benchmark is to allocate at least 40% as salary. For example, if your business nets $200,000, Lettuce sets your salary at $80,000. Payroll taxes apply to that amount, but become a deductible business expense.

Step 2: Determine your distributions

Next, Lettuce calculates your owner’s distributions from the remaining profit. In this case, $120,000 flows through without payroll taxes, though it’s still subject to income tax. Lettuce ensures the balance between salary and distributions stays compliant with IRS standards.

Step 3: Factor in your full tax picture

Finally, Lettuce incorporates your broader financial situation, including W-2 income, a spouse’s earnings, investments, and more. Every factor influences what counts as a defensible, reasonable salary.

Lettuce doesn’t just recommend a number: it documents the reasoning, updates it as your business evolves, and keeps your compensation both compliant and tax-efficient.

S Corp Salary vs. Distributions Examples

Real numbers make the S Corp advantage clear. Here’s how the right split between salary and distributions can save thousands in payroll taxes each year:

Every dollar you shift into distributions avoids the 15.3% payroll tax hit. That’s why S Corp owners who get the split right not only stay compliant with IRS rules, but also unlock compounding savings that scale as their business grows.

How to Make S Corp Salary Payments to Yourself

Paying yourself through an S Corp isn’t as simple as transferring money; you need a proper payroll system to stay compliant. Here’s what it takes:

Step 1: Set up payroll - Get an EIN, choose a pay schedule, and register for state payroll accounts if required.

Step 2: Run payroll - Process your salary through payroll, with federal, state, and FICA taxes withheld.

Step 3: File forms - Stay compliant with quarterly Form 941s, annual Form 940, and a W-2 for yourself at year-end.

Step 4: Track distributions - Distributions don’t go through payroll, but you must record them against your shareholder basis to avoid issues.

Managing both salary and distributions correctly protects your S Corp tax savings, but it’s a lot to keep up with. Lettuce calculates, files, and tracks it all automatically so you get the benefits without the hassle.

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Reporting Your S Corp Salary on Your Taxes

Your S Corp salary is reported just like any other employee wage. At year-end, you’ll receive a W-2 that shows:

• Total salary paid

• Federal and state taxes withheld

• Social Security and Medicare taxes paid

You report this W-2 income on your personal Form 1040, the same way you would if you worked for any other employer.

Your S Corp, acting as the employer, also has filing responsibilities:

• Form 941 – filed quarterly for income tax, Social Security, and Medicare withholdings

• Form 940 – filed annually for Federal Unemployment Tax (if applicable)

• State payroll filings – quarterly wage reports and unemployment insurance filings (varies by state)

While your personal reporting is simple, the business side can get complicated. With multiple forms and deadlines across federal and state levels, it’s easy to miss a filing, and even small mistakes can lead to penalties or lost tax savings.

Reporting Your S Corp Shareholder Distributions on Your Taxes

Distributions aren’t reported as separate income on your tax return; net profits are. Net Profit, deductions, and credits flow from your S Corp’s tax return, Form 1120-S, on a Schedule K-1. The K-1 shows your share of the company’s income, deductions, and credits, but not the actual cash distributions you took.

Here’s how it works:

• You pay income tax on your share of the S Corp’s profit, whether you withdrew that money or not

• Distributions from profits are not taxed up to your basis (your investment in the company plus retained profits)

• If you take more than your basis, the excess is taxed as a capital gain

This structure has an important wrinkle: you may owe taxes on profits even if you left most of the money in the business. That’s why many S Corp owners make quarterly estimated tax payments to stay ahead of the bill.

The challenge? Tracking basis and distributions correctly. You could face unexpected capital gains taxes or underpayment penalties if you miscalculate or take more than your basis.

Lettuce calculates your reasonable salary, allocates the rest as distributions, and files every required form. Get started today and keep the tax savings while staying fully compliant, without the burden of payroll paperwork.

Frequently Asked Questions (FAQ) about Salary vs. Owner’s Distribution

Getting salary and distribution rules right is key to building a tax strategy that works. Here are quick answers to the most common questions solopreneurs ask.

Are distributions from an S Corp considered income?

Distributions aren’t taxed when you receive them—you pay tax on profits through your S Corp return. If you take more than your “basis,” the extra is taxed as a capital gain.

Is it better to take distributions or a salary from an S Corp?

You need both. The IRS requires a reasonable salary, but distributions save you 15.3% in payroll taxes once that salary threshold is met.

Do S Corp distributions have to be prorated for multiple shareholders?

Yes. Distributions must match ownership percentages exactly, and unequal payouts can trigger IRS scrutiny and penalties.

Navigate S Corp Rules and Maximize Tax Savings with Lettuce

Getting your salary and distribution balance right can mean thousands in annual savings. The advantage is clear: salary keeps you compliant, while distributions avoid the 15.3% payroll tax. The hard part is managing payroll, filings, and documentation without losing time or risking mistakes.

Lettuce makes it simple. The platform calculates your reasonable salary using industry benchmarks, allocates the rest as distributions, and files every required form on time. That means more tax savings, less stress, and a compensation strategy that stays audit-ready as your business grows.

Start with Lettuce today and see how much more of your earnings you can keep.