Under Section 199a under the Tax Cut and Jobs Act of 2017, does it make sense for pass-through service entities, such as S-Corporations, to have the owners maximize their salary to take advantage of the 20% deduction for qualified business income? The relevant entities are service corporations (they do not sell a product).
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NO... you MUST take a reasonable salary ... the IRS will be watching for salary reductions and can hit you hard with penalties ...
The IRS position is
that an S-Corporation MUST pay a reasonable compensation to an officer before
non-wage distributions may be made. The reason is that they feel that
non-wage distributions when no wages are paid is an avoidance of social
security taxes. From the IRS website at http://www.irs.gov/businesses/small/article/0,,id=203100,00.html :
"Reasonable Compensation
S corporations must pay reasonable
compensation to a shareholder-employee in return for services that the employee
provides to the corporation before non-wage distributions may be made to the
shareholder-employee. The amount of reasonable compensation will never exceed
the amount received by the shareholder either directly or indirectly.
Distributions and other payments by an S
corporation to a corporate officer must be treated as wages to the extent the
amounts are reasonable compensation for the service rendered to the
corporation.
Several court cases support the authority of
the IRS to reclassify other forms of payments to a shareholder-employee as a
wage expense and subject to employment taxes."
The page cites Joly vs. Commissioner, 211 F.3d
1269 (6th Cir., 2000) as one judicial finding on the IRS's authority to
reclassify distributions to wages subject to employment taxes. Factors to
determine reasonable compensation are given in the ruling.
The AICPA has an interesting article on this
topic here: http://www.aicpa.org/publications/taxadviser/2011/august/pages/nitti_aug2011.aspx
You also might want to read a lively
discussion on the Tax Almanac website here: http://www.taxalmanac.org/index.php/Discussion_Forum_-_Tax_Questions . The substance of the discussion seems
to be that taking a reasonable salary is not optional and, if you took
distributions with no salary, the distributions should be changed to salary
with appropriate employment tax returns being filed (late, if necessary.)
The fastest way to get audited as an
S-Corporation is to not report wages to officers on page 1 of the return.
The law requires high-income taxpayers to either pay wages or hold depreciable property in order to get the Sec. 199A deduction.
A “high-income” taxpayer includes single taxpayers making more than $157,500 and married taxpayers filing joint returns making more than $315,000.
These extra requirements get complicated quickly, but basically the Sec. 199A deduction can’t be more than either 50% of W-2 wages or 25% of W-2 wages plus 2.5 percent times depreciable property.
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