When an S-corp actually pays off

Where the savings come from

As a sole proprietor or single-member LLC, your whole profit is subject to self-employment tax: 15.3% on 92.35% of net earnings, with the Social Security part (12.4%) stopping at the 2026 wage base of $184,500 and the Medicare part (2.9%) continuing on everything.

An S-corporation splits your money in two. The salary you pay yourself runs through payroll and carries the same 15.3% (half withheld from you, half paid by the company). Whatever profit is left can come out as a distribution, which carries no Social Security or Medicare tax. The savings are the payroll tax you no longer pay on that distribution, minus what the S-corp costs to run.

A worked example

Take a consultant with $100,000 of net profit paying a $45,000 salary, with $2,000 a year in added costs.

	Sole proprietor	S-corp
Profit	$100,000	$100,000
Taxed for Social Security and Medicare	$92,350 (92.35% of profit)	$45,000 salary
Social Security and Medicare tax	$14,130	$6,885
Added payroll, filing and state costs	$0	$2,000
Total	$14,130	$8,885

That's about $5,245 a year saved. This comparison looks only at Social Security and Medicare. It leaves out income-tax effects such as the deduction for half of self-employment tax, the qualified business income (QBI) deduction, and how a lower salary changes retirement plan limits. Those can move the answer in either direction, which is why we run the full return both ways before recommending it.

The salary has to be reasonable

The obvious trick is to pay yourself $10,000 and take the rest as distributions. The IRS knows that trick. S-corp owners who work in the business must pay themselves reasonable compensation: roughly what you'd pay someone else to do your job. The IRS can reclassify distributions as wages, with back payroll taxes, penalties and interest.

We look at what your role pays in the Indianapolis market, how many hours you work, and what the business could afford to pay an outside hire. A salary you can defend is worth more than a bigger distribution you can't.

An S-corp is a payroll decision as much as a tax decision. If you don't want to run payroll every month, the savings have to be worth that hassle.

What it costs to run

• PayrollMonthly or twice-monthly payroll, quarterly Form 941s, W-2s and state withholding filings.
• A separate returnForm 1120-S, due March 15 for calendar-year companies, plus Indiana Form IT-20S.
• Clean booksBusiness and personal money kept strictly apart, and a balance sheet that ties out.
• State and entity upkeepBusiness entity reports with the Indiana Secretary of State and any registered agent fees.

Timing the election

You elect S-corp status on Form 2553. To take effect for a calendar year, it's generally due no more than 2 months and 15 days after the year begins, which is March 15 for most businesses, or any time during the year before. Miss it and the election usually starts the next year, though the IRS has a relief procedure for late elections with a good reason.

The best time to decide is in the fall, when you can see most of this year's profit and still set up payroll for January.