S Corporation Shareholder/Employees and Social Security

One of the benefits of an S corporation is the flow through aspect of the income for tax purposes. S corporations do not have their own tax liability; the income simply flows through to the shareholder's individual income tax return. Even though the IRS says that S corporation shareholders who provide services to the company should pay themselves a "reasonable" salary, the shareholder/employees will often keep that salary to a minimum in order to avoid incurring Social Security and Medicare taxes, and take the rest of the funds they need as dividends/distributions of previously taxed income.

Young S corporation shareholders are particularly against paying into the Social Security system because they are of the opinion that by the time they retire, Social Security will be no more. What they do not realize is that the Social Security system is not only for retirement. It also provides disability and survivors benefits. Heaven forbid anything happen to that person, but if it does, Social Security benefits are made available to that person upon disability or to his/her survivors upon death. In the latter scenario, Social Security acts almost like a life insurance policy. Something to think about before you decide to set that low salary as an S corporation shareholder/employee. Not only will you possibly attract the scrutiny of the IRS for an unreasonable salary, you might also be short-changing your family, especially if you aren't sufficiently covered in the private market for disability or life insurance.

For more information about Social Security benefits, you may visit www.ssa.gov