Small Business Financial Article
|Rich Best has spent 28 years in the financial services industry, as an advisor, a managing partner, directors of training and marketing, and now as a consultant to the industry. Rich has written extensively on a broad range of personal finance topics and is published on several top financial sites. Recent books include The American Family Survival Bible and Annuity Facts Revealed: What You MUST Know Before You Invest.|
Managing Payroll, Bookkeeping, and Taxes as a Sole Owner-Employee of an S-Corp or LLC
Congratulations! You are (or are considering) turning your business into an S-Corp. You can run your business as usual while gaining some tax and liability advantages. However, there is the matter of how you get paid, which is not business as usual. In terms of how you pay yourself and file reports and taxes as an S-Corp or an LLC, the IRS added a few wrinkles and several steps to the process.
Here’s a breakdown of the payroll, bookkeeping, and tax reporting process single owner-employees of S-Corps must follow to stay on the right side of the IRS.
Determine how much to pay yourself
In an S-Corp, all income flows to the corporation from which expenses must be paid. One of those expenses is your salary. The IRS allows S-Corp owners to receive "reasonable" compensation. What that means depends on several factors, such as your qualifications, business size and complexity, and a comparison of salaries earned by others in similar situations.
If you set your salary as $50,000, that is recorded as wages. But if your business generates additional profits, you can take them as shareholder distributions, which are recorded as distributions and taxed at a more favorable rate.
Determine how often you get paid
As the sole owner, you can determine your pay schedule. While you can decide when to pay yourself, you should consider setting up a schedule around your quarterly estimated taxes. Your quarterly taxes must be paid on time, so it would be essential to coordinate them around salary payments.
Calculate your net pay
As with any employee, your earnings will be netted out by payroll taxes and income tax withholding. As an employee, you pay 7.65% of your earnings to cover Social Security and Medicare payroll taxes. The same goes for your S-Corp for a total of 15.30% for payroll taxes. For example, if your salary is $50,000, you and your S-Corp will each pay $3,825 for payroll taxes. These payments should be reported as payroll taxes in your books.
Payroll taxes are filed quarterly using Form 941
You will also need to estimate your federal income taxes and an amount to be withheld from each payment to go toward estimated quarterly tax payments. The IRS website has a Tax Withholding Estimator to help determine the amount.
When you’ve calculated your payroll and estimated income tax amounts, you subtract them from your salary to determine your net pay.
Getting paid is simple. You can either write yourself a check from the business checking account or use ACH to transfer your payment electronically. The payment must originate from a business checking account and end up in your personal checking account. Remember to record salary payments as wages in your books.
Navigating the payroll and tax forms
When you take your business to the next level as an S-Corp or LLC, you can expect a little more involvement with the IRS. Though there’s nothing too strenuous, several forms need to be filed throughout the year, so it would be important to set up your IRS reporting on a schedule.
Form W-2: Must be sent to the IRS every year to report your salary. As an employee, you must receive a W-2 from your S-Corp every year by January 31.
Employee income and payroll tax withholding:Federal income and payroll taxes withheld from your earnings must be filed quarterly using Form 941.
Unemployment taxes:Your S-Corp must pay unemployment taxes amounting to 6% of the first $7,000 you earn using Form 940. Check with your state to see if it also requires unemployment taxes to be paid.
Estimated quarterly taxes:If, as an employee, you estimate annual federal taxes of more than $1,000, you must pay quarterly taxes using Form 1040-ES.
Workers’ compensation insurance:Check with your state to see what it requires for workers’ compensation payments.
S-Corp income taxes:In addition to your individual income taxes filed on Form 1040, your S-Corp must also file a tax return using Form 1120S. The form includes Schedule K-1, which is distributed to each shareholder to report any profits received from the company.
State payroll tax forms:Check with your state to see its reporting requirements for payroll and other taxes. Some states don’t require any quarterly payroll returns from single-person corporations. Others require filing a simple worksheet with a formula for determining the payroll tax.
You Don’t Have to go it Alone
Managing payroll was probably the last thing you envisioned yourself doing when you started your business. Although it’s much more straightforward when you are the sole employee, it can still be overwhelming when you consider all the IRS requirements and the penalties for messing it up. That’s why you should consider outsourcing your payroll function to a service provider. A good payroll service provider can track and record wages, disburse payments, and file the required IRS forms for less than
$50 per month. It’s not just about shifting the work burden; it’s about the peace of mind of having done properly. Though, the responsibility for ensuring it’s done properly still rests with the employer.