If you’re running an S Corp, you might not understand the key benefit of S Corp Selection. Or even worse: you could be making costly mistakes without even realizing it!

Imagine finding out that something you thought was harmless is actually putting your business at risk.

Today, we’re diving into the three biggest mistakes most S Corps make—and how to fix them before they cost you everything you’ve worked so hard to build.

Understanding S Corps

What is an S Corp?

An S Corp, or Subchapter S Corporation, is a unique business structure that offers significant tax benefits to its owners.

Unlike traditional corporations, an S Corp allows its income, credits, deductions, and losses to pass directly to its shareholders.

This means the corporation itself doesn’t pay federal taxes on its income. Instead, shareholders report their share of the business income on their personal tax returns, which can lead to substantial tax savings.

For small business owners and entrepreneurs, this structure can be particularly advantageous.

Not only does it help in limiting personal liability, but it also provides a way to avoid the double taxation that plagues C Corporations.

With an S Corp, you sidestep this issue entirely, making it a popular choice for those looking to maximize their tax benefits while protecting their personal assets.

S Corp vs. LLC

Choosing the right business structure is crucial, and understanding the differences between an S Corp and an LLC can help you make an informed decision.

S Corporations, on the other hand, are pass-through entities. This means the business income is only taxed at the individual level, avoiding double taxation. To elect S Corp status, a business must file Form 2553 with the IRS.

While S Corps offer significant tax advantages, they come with restrictions on ownership and management. For instance, they can only have up to 100 shareholders, and all shareholders must be U.S. citizens or residents.

LLCs (Limited Liability Companies) provide flexibility in ownership and management. They are also pass-through entities, meaning the business income is taxed only at the individual level. LLCs can choose to taxation as a sole proprietorship, partnership, S Corp, or C Corp, depending on what suits the business best.

This flexibility makes LLCs a popular choice for many small business owners.

In summary, S Corps and LLCs offer significant tax benefits for small businesses by avoiding double taxation. And providing flexibility in how business income is reported.

What You Need to Know as an S Corp Owner

Understanding how to navigate the world of an S Corporation can feel overwhelming. Whether you’re transitioning from an LLC or you’ve been an S Corp for years, the way you handle certain aspects of your business could have a massive impact on your profitability—and on your interactions with the IRS.

Let’s break down the three key mistakes you might be making and how you can avoid them.

Mistake #1: Not Documenting Your Salary and Distributions Properly

One of the biggest mistakes in S Corps (and one that the IRS has flagged as a hot button for audits) is not paying yourself a reasonable salary—and not documenting it correctly.

Why Is This a Big Deal?

The IRS expects S Corp owners to pay themselves a reasonable salary for the work they do. What happens if you don’t? They might reclassify your distributions (the money you take out of the business) as salary. This means you’ll owe Social Security, Medicare, and payroll taxes—plus penalties and interest if they determine that you were underpaying yourself.

The question I hear all the time is: “But how do I know what’s a reasonable salary?”

That’s where the trick lies. It’s not just about choosing a number that feels right—you need to be able to back up that number with real data. The IRS looks for salaries that reflect industry standards and job responsibilities. You can’t just say, “I think this is fine.” You need documentation to support that the amount you’re paying yourself is on par with what others in your role and industry would make.

Solution: The best way to avoid this mistake? Get a professional Reasonable Compensation Study done for your business. Our Reasonable Compensation Report takes a deep dive into your business and gives you concrete data to prove your salary is, in fact, reasonable. This can be your secret weapon in the face of an audit—and it’s way less stressful than trying to justify your salary after the fact.

Mistake #2: Thinking You Can Avoid Paying Yourself a Salary If Your Profits Are Low [Self Employment Tax Liability]

Here’s the reality: Being unprofitable doesn’t excuse you from paying yourself a salary. A common misconception I see among S Corp owners is thinking that if their business isn’t making much money, they don’t have to pay themselves a salary at all.

But Isn’t That Logical?

At first glance, it seems like a reasonable approach: If your business isn’t profitable, how can you justify taking a salary? The IRS, however, doesn’t see it that way. They expect that you, as an owner-employee, will still receive a reasonable wage for the work you’re doing, regardless of profit.

If you’re taking distributions—any amount of money from your business—you must first be paying yourself a reasonable salary, even if that salary eats into your profits.

Solution: When profits are low, you still have to pay yourself a salary. If cash flow is tight, be strategic with the amount you pay, but always document how you determined that salary. If you’re unsure whether an S Corp structure is still beneficial for you, it might be time to evaluate if staying an S Corp is right for your business.

In fact, this is something we dive into during my Savvy S Corp Owner Masterclass: Getting Your Salary Right. In the class, we talk about how to set your salary in a way that protects your business and keeps you IRS-compliant, no matter how profitable (or not) you are.

Mistake #3: Misunderstanding the Rules Around Deductions

Many S Corp owners mistakenly believe they can handle deductions the same way they did when they were an LLC or a sole proprietor. Unfortunately, that’s just not true—and misunderstanding this can be a costly mistake.

What’s Different Now That You’re an S Corp?

As an S Corp, you’re technically an employee of your business. This changes the way you need to handle certain deductions. For example, if you were previously deducting your home office expenses or your cell phone bill as a sole proprietor, you might have done so directly on your tax return. But as an S Corp, you have to go through a different process.

In an S Corp, instead of taking those deductions directly, you should be reimbursing yourself for those expenses through a formalized accountable plan. This plan lays out how you, as an employee, receive reimbursement for business expenses.

Without an accountable plan, those reimbursements could be reclassified as taxable income—leaving you with a higher tax bill and possible penalties.

Solution: Set up an accountable plan that includes all your reimbursable expenses, such as mileage, home office deductions, and personal-to-business expenses like your phone bill. Document everything and treat yourself like you would any other employee in your business.

This is another area we cover in detail in the Savvy S Corp Owner Masterclass. Not 100% sure you’re handling these correctly? Come join us and we’ll make sure you’re set up for success.

Misunderstanding S Corp Tax Benefits

Tax Advantages of S Corps

One of the standout features of an S Corp is its tax advantages. As a pass-through entity, an S Corp itself does not pay federal taxes on its income. Instead, the business income, along with credits, deductions, and losses, passes directly to the shareholders. This means shareholders report their share of the income on their personal tax returns, effectively avoiding the double taxation that C Corporations face.

For small business owners, this can translate into significant tax savings. By structuring your business as an S Corp, you can reduce your self-employment tax liability.

Shareholders in an S Corp can be considered employees and pay themselves a reasonable salary. This salary is subject to Medicare and Social Security taxes. Shareholders can take additional profits as distributions. Which do not incur these payroll taxes, leading to further tax benefits.

However, it’s essential to navigate these benefits carefully. S Corps come with specific compliance requirements and restrictions. For instance, they can only have one class of stock. And held to the limit to 100 shareholders, all of whom must be U.S. citizens or residents.

Additionally, the costs associated with maintaining compliance, such as filing fees and accounting services, can be higher compared to other business structures.

Understanding these nuances is crucial for maximizing the tax advantages of an S Corp while staying compliant with the Internal Revenue Code. By doing so, you can ensure that your small business corporation reaps the benefits of this business structure without falling foul of federal tax regulations.

Why Getting Your Salary Right Is So Important for Tax Benefits

Handling your salary correctly is crucial because it’s the first thing the IRS will scrutinize if they audit your S Corp. An incorrect salary—or lack of documentation around it—can lead to reclassified distributions, additional taxes, interest, and penalties. Not fun, right?

This isn’t something you want to be guessing on.

If you’re thinking, “This sounds confusing, and I’m not sure I’m doing it right,” you’re not alone. So many S Corp owners struggle with this.

That’s why I created the Savvy S Corp Owner Masterclass, where I share with you how calculating your salary, and documenting it properly can help you to avoid IRS penalties.

How to Have a Successful S Corp: The Bottom Line

Running an S Corp can be one of the smartest moves you make for your business—but only if you understand how to navigate the nuances that come with it. Avoiding these three mistakes is key to staying compliant, protecting your profits, and avoiding any unpleasant surprises from the IRS.

To recap, here’s what you need to focus on as an S Corp Owner:

• Pay yourself a reasonable salary—and document how you arrived at that number.
• Pay yourself a salary even when profits are low—distributions without a salary will land you in hot water.
• Set up an accountable plan to handle reimbursements for expenses like mileage, home office, and personal-to-business costs.

Want my full S Corp Success Checklist? Get it for FREE when you register and show up for the Savvy S Corp Owner Masterclass: Getting Your Salary Right. You’ll walk away with the tools and knowledge to pay yourself correctly, stay compliant, and keep your business in good standing with the IRS.

Disclaimer: The following is a transcript of a recorded video and has not been checked or edited for errors. Please note that there may be inaccuracies or inconsistencies in the text.

Disclaimer: The following is a transcript of a recorded video and has not been checked or edited for errors. Please note that there may be inaccuracies or inconsistencies in the text.

Imagine This: A Big Project, Big Profits, and an Even Bigger IRS Audit

You’ve just wrapped up a major project in your S Corp, and you’re all set to watch those profits roll in. But instead of celebrating, you find yourself dealing with an unexpected IRS audit that leads to penalties and fines you never saw coming. If you’re running an S Corp, there are crucial mistakes you might be making—and they could be putting your business at risk.

Stick around because today, I’m sharing the three biggest mistakes S Corp owners make and, more importantly, how to avoid them.

Hi, I’m Jamie Troll, CPA and financial literacy coach. My mission is to equip you with the tools to stay informed, organized, and profitable in your business. Let’s dive into these mistakes together, and don’t miss the special tips at the end to help you stay on good terms with Uncle Sam!

Mistake #1: Not Documenting Your Salary and Distributions Properly

This is a huge one, y’all! Not paying yourself a reasonable salary (or failing to document it correctly) is an IRS red flag, especially if you’re taking distributions out of your business without a corresponding salary. The IRS wants to see that you’re compensating yourself reasonably for the work you do, and trust me, they’ll be looking closely if your business gets audited.

Even if you believe you’re paying yourself a reasonable salary, documentation is key. You need to prove how you arrived at that number. If you can’t back it up with solid evidence, the IRS won’t care that it feels right to you.

The Solution: Get It Documented

The IRS has stated this is a key area of focus for audits on S Corps. So, make sure you know how you arrived at your salary, and that it’s well-documented. Without the proper support, those distributions could be reclassified as salary, meaning you’d owe back payroll taxes, Social Security, and Medicare—along with fines and penalties.

If this sounds confusing, don’t worry—I’ve got you covered. Join my Savvy S Corp Owner Masterclass: Getting Your Salary Right where I’ll walk you through exactly how to calculate and document your salary to stay compliant and protect your business.

Mistake #2: Skipping Your Salary When Profits Are Low

I hear this question a lot: “My business isn’t very profitable right now. Do I still need to pay myself a salary?” And the answer is, yes, you do.

Why?

Just because your profits are low doesn’t mean you can skip paying yourself a salary. If you’ve taken any distributions, the IRS will expect that a reasonable salary was paid first. Failing to do so can result in those distributions being reclassified as salary—triggering additional taxes, interest, and penalties.

While the IRS won’t make you pay yourself a salary if there’s absolutely no cash in the business, if you’re pulling distributions, those will be treated as salary during an audit unless you’ve compensated yourself properly.

The Solution: Salary Comes First

Make sure to pay yourself a reasonable salary each year, even if profits are low. And if you’re struggling to pay yourself because your business isn’t profitable, it might be time to reconsider whether being an S Corp is even the right structure for you.

In fact, if your profits are consistently low, the S Corp tax benefits may not be helping you. If there’s little to no profit beyond your salary to take advantage of those tax savings, being an S Corp might actually be costing you more in taxes than it’s saving you.

This is exactly the kind of nuance I cover in my masterclass, so make sure to sign up to learn if you’re doing things the right way!

Mistake #3: Misunderstanding the Rules Around Deductions

Another common trap for S Corp owners is assuming that deductions work the same way they did when you were a sole proprietor or LLC. But the rules change once you’ve made the S Corp election.

For instance, you can no longer deduct certain personal-to-business expenses directly through the business, like you might have before. That means no more deducting your home office or cell phone bill the same way. The IRS now sees you as an employee of your S Corp, which means those deductions must go through an accountable plan.

The Solution: Set Up an Accountable Plan

You’ll need to reimburse yourself for these expenses through a formal reimbursement plan, just like you would for any other employee. This is often an overlooked area, but if you continue to take deductions improperly, the IRS may disallow them, leaving you with more taxable income than you expected.

In addition to business expenses, things like retirement contributions and health insurance premiums are also handled differently under an S Corp structure. These changes can be confusing, and many business owners get tripped up by not adjusting to the new rules.

Again, if this all feels overwhelming, we’ll be covering these key topics and more in the Savvy S Corp Owner Masterclass.

Protect Your Business from These Costly Mistakes

Whether you’re just getting started with your S Corp or have been operating for a while, it’s essential to avoid these pitfalls. Here’s a quick recap:

1. Document your salary: Make sure it’s reasonable and supported with documentation.
2. Pay yourself, even when profits are low: Don’t let low profits tempt you into skipping your salary.
3. Set up an accountable plan: Handle your deductions the right way to avoid reclassification and extra taxes.

Taking these steps will help keep your business on the right track and protect you from costly IRS penalties. And if you’re ready to dive deeper into how to get your salary right and avoid these mistakes, don’t miss out on my Savvy S Corp Owner Masterclass.

Want Extra Help with Salary Documentation? Check Out Our Reasonable Compensation Report!

While the Savvy S Corp Owner Masterclass is your go-to for hands-on guidance on salary, you can also get a more personalized look at your compensation with a Reasonable Compensation Report. This will provide concrete data to back up your salary and ensure you’re fully protected during an audit.

Ready to get your S Corp salary right?
Click here to sign up for the Savvy S Corp Owner Masterclass and make sure your business is IRS-compliant, profitable, and protected from costly mistakes!