How an S corporation officer gets paid

Dear Tax Talk,
Can an officer of an S corporation receive a 1099? What is the best way to determine personal income if an officer is not on payroll and draws from the business account?
— Angel

Dear Angel,
An officer of a corporation is always considered an employee and therefore should not receive a 1099 for services rendered. If the officer is drawing from the business account to compensate for services rendered, he or she needs to be put on the payroll. Adequate compensation for services rendered to an S corporation is a hot-button issue with the IRS. Because compensation is subject to payroll taxes and draws are not, a shareholder can avoid taxes by receiving all draws.

The IRS does not provide an objective amount it would like to see declared as salary as opposed to draws. If the S-corp is losing money and not making distributions, then salary would be uncalled for. In effect, the shareholder would be deferring his or her salary until better times. This is often seen when a large company hires a turnaround specialist for a nominal $1 per year salary plus stock options. Because the S corporation shareholder owns the company, this would in effect be his or her compensation.

Outside of the loss corporation, it is hard to tell what the appropriate mix is between draws and compensation. Factors considered would be the efforts of the shareholder, his or her experience, the nature of the business earnings and their dependency on the shareholder. Each case is different and needs to be evaluated as such.

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