Did you start a company recently and now you’re wondering what the rules are for paying yourself as a business owner? Entrepreneurs can choose to compensate themselves with a salary, draw or both. In other words you can decide to give yourself a regular paycheck for your efforts or pay yourself based on the company’s overall profits.
Typically your business structure determines how you can compensate yourself for your hard work. If you are a sole proprietor or started a business with a partner you can pay yourself whenever you like. You’re also responsible for disclosing your total income when you have to file taxes. It’s important to remember that you will have to withhold some of your earnings for Medicare, Social Security, and federal and state income taxes when you take a paycheck.
If you decided to legally structure your company as an S Corporation, you can pay yourself regularly with a paycheck and give yourself additional money in the form of a draw. You are not required to withold money for taxes when you receive a draw. Since the government may closely review or audit business owners who take draws so they can avoid paying federal or states taxes.
The IRS requires business owners to pay themselves a reasonable amount based on their job. So if you own and operate a boutique retail store, the IRS will expect you to pay yourself a salary that’s similar to other boutique retail stores in your area. When in doubt, contact your trusted CPA for help so you won’t have to pay any penalties or interest.
Many founders decide to pay themselves a salary since they it’s easier for them to budget their personal expenses. It can also help you forecast the company’s overhead expenses and better prepare for tax season.