Advice to S Corporation Owners Adds Value to Enrolled Agent Relationship
One of the benefits derived from obtaining the enrolled agent designation is that it permits you to promote yourself for having the highest tax specialist status. Therefore, in addition to preparing tax returns, your advice about taxes carries significant value.
Few cases are more important uses of an enrolled agent course than advising taxpayers who operate S corporations. These individuals are confronted by increasing IRS scrutiny due to their special tax situation. The benefit of creating an S corporation is that the profit is not considered self-employment income. Therefore, unlike an unincorporated proprietor, S corporation shareholders don’t pay self-employment tax. That’s the tax covering Social Security and Medicare contributions.
In exchange for this tax benefit, the IRS requires an S corporation to pay reasonable wages for the work a shareholder performs as corporate officer. These wages do incur employment taxes for Social Security and Medicare. But the profit remaining after paying officer salary still escapes these taxes.
Such cases call for you to utilize your enrolled agent continuing education in payroll matters plus provide recommendations to help determine the officer wages. The IRS is concerned about S corporations that pay unreasonably low wages, which causes low assessment of Social Security and Medicare taxes.
In order to increase collections of employment taxes, the IRS requires “reasonable” wages for corporate officers – regardless of their positions as shareholders. The facts provided in an enrolled agent ethics course apply greatly to S corporations. Distribution of profits without reasonable salary is an undesirable tax avoidance scheme.
As the IRS steps up its legal actions in court against S corporation shareholder officers with low wages, establishing a reasonable salary for corporate officers is increasingly critical. The tax code doesn’t have a formal definition for “reasonable” wages. An S corporation shareholder who is also a corporate officer should receive compensation that’s similar to the amount expected in arms length negation.
In most cases, wages – which incur employment taxes – should exceed profit distributions to shareholders – which escape employment taxes. This of course limits the tax savings for an S corporation compared to a proprietorship. In fact, calculating the benefits of creating an S corporation becomes a mathematical exercise based upon business profit. For existing businesses with predictable profits, enrolled agents can measure the expected tax savings from creating S corporations as successors to proprietorship operators.
IRS Circular 230 Disclosure
Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.