Whether you own a business registered as an S-Corp or LLC taxed as an S-Corp, there are a few distinct tax advantages offered to you that are not offered to other entities.
As pass-through entities, S-Corps do not pay federal income tax as entities, while also gaining a few benefits that other pass-through entities do not have. But beyond choosing an optimal entity structure, are you doing everything you can to reduce your tax burden? And are you taking full advantage of all the business exemptions and credits available in your industry?
In this guide, we’ll show you how an S-Corp pays taxes, what to watch out for when managing an S-Corp, and tactics you can use to reduce your tax liability through your business.
What is an S-Corp?
Like a sole proprietorship or partnership, an S-Corp is a pass-through entity structure for a business. This means that the S-Corp is not taxed as an entity; instead, profits and losses are passed through to the owners.
An S-Corp is often seen as one of the most optimal business structures for tax purposes, and for good reason: S-Corps are not subject to double taxation like C-Corps and have a few unique advantages to boot.
While S-Corps require you to pay payroll taxes on wages and pay yourself a W-2 income, you do not pay payroll/self-employment taxes on distributions (profits taken from the business). This allows you to pay a lower effective tax rate on income generated by your business than other entity structures. This makes an S-Corp especially compelling, but note that there are several restrictions placed on them when compared to other entities:
- You cannot have over 100 shareholders
- You can have only one class of stock
- You cannot have non-resident aliens as shareholders
- You must pay yourself a reasonable W-2 wage, and you are liable to penalties if the IRS believes you are not doing so
Roles in an S-Corp
An S-Corp can be a solo venture or a larger business with multiple owners and employees. No matter how large your business is, participants are usually bucketed into the following roles:
- Owners/shareholders: Individuals who have stock in the business and receive distributions based on their ownership stake. Most owners also work in the business and must receive a W-2 wage.
- Corporate officer: Executives in the company, typically also shareholders and employees who are paid for their services.
- Employee: Individuals who work in the business and are paid a W-2 wage and are subject to payroll taxes.
Next, we’ll share how an S-Corp pays taxes and some of the advantages offered to owners.
How an S-Corp Pays Taxes
Unlike other pass-through entities, shareholders must receive a reasonable W-2 wage (more on this later), and are responsible for:
- Income tax (wages and distributions)
- Payroll tax (15.3% split between the business and employee), which applies only to income and not to distributions.
There is some fine print on payroll taxes, as the Social Security tax is capped at $176,100 of wages (as of 2025), indexed for inflation. The Medicare tax has no wage cap and, in fact, increases at certain income levels based on filing status ($250,000 in 2025 for married filing jointly). Learn more about S-Corp taxation rules and requirements here.
Federal Income Tax Filing Requirements for S-Corp Owners
As an owner, you are required to file Form 1120-S each year to report your business income, gains, losses, deductions, and credits to the IRS.
S-Corps also must provide each shareholder with a Schedule K-1, which reports their share of the business’s profits and losses. Both of these forms are due by the 15th day of the third month of your tax year (March 15th, if you go by the calendar year).
As noted above, S-Corp owners must pay themselves a W-2 salary, but that salary is subject to payroll taxes, whereas distributions are not. Given the apparent ability to reduce your tax burden, the IRS requires S-Corp owners receive a “reasonable wage” to guard against fraudulent behavior.
S-Corp Reasonable Wage Requirements
As shared above, owners and shareholders of S Corporations receive income in two ways:
- Salary: Monetary compensation paid for a service, either to yourself or to a corporate officer, usually for a fixed sum for a specified period of work.
- Distributions: This represents your share of the profits of the S-Corp. Distributions are not part of your employee wages and are not subject to self-employment tax.
A reasonable salary is a deductible expense to the S corporation and will be subject to payroll taxes, while distributions are non-deductible and not subject to employment taxes. That’s because distributions are pass-through allocations of profit.
The keyword here is “reasonable.” The IRS closely monitors S-Corps to prevent shareholders from misclassifying income as distributions to avoid payroll taxes by requiring owners to pay themselves a reasonable wage. The IRS does not offer clear guidelines on what exactly “reasonable” means, but you have a few options to determine what a reasonable salary might be for you:
- A market-based approach: Look up salary data for a comparable role using public data from the Bureau of Labor Statistics or websites like Glassdoor or Payscale.
- A time-based approach: Consider the time you spend in your business and the hourly rate you would pay for that time. This can be useful if you wear many hats in the business.
- A cost-to-replace approach: Consider what it would cost to hire someone to do the work that you do. While not always perfect, that can be a good starting point for assessing what your compensation should be.
To illustrate the impact of paying yourself via a salary versus distributions, we’ll explore three tax scenarios next.
S-Corp Taxation Examples
We’ve covered S-Corp taxation at a high level, so let’s explore a few examples to illustrate how you can balance W-2 income and distributions and the impact that will have on your tax liability.
Suppose your S-Corp made $500,000 in profit last year; let’s look at how you would be taxed in three different scenarios:
- Pay yourself a W-2 salary of $100,000
- Pay yourself a W-2 salary of $175,000
- Pay yourself a W-2 salary of $250,000
Scenario 1: Pay Yourself a W-2 Salary of $100,000
If you paid yourself a W-2 salary of $100,000 and pocketed $400,000 in distributions, you could expect the following:
- Social Security Tax- Employee 6.2% or $6,200
- Medicare Tax-Employee 1.45% or $1,450
- Social Security Tax-S Corp 6.2% or $6,200
- Medicare Tax-S Corp 1.45% $1,450
So the total tax paid between the business and you is $15,300.
Scenario 2: Pay Yourself a W-2 Salary of $175,000
If you paid yourself a W-2 salary of $175,000 and pocketed $325,000 in distributions, you could expect the following:
- Social Security Tax- Employee 6.2% or $10,850
- Medicare Tax-Employee 1.45% or $2,537.50
- Social Security Tax-S Corp 6.2% or $10,850
- Medicare Tax-S Corp 1.45% $2,537.50
So the total tax paid between the business and you is $26,775.
Scenario 3: Pay Yourself a W-2 Salary of $250,000
If you were to pay yourself $250,000 in W-2 wages and $250,000 in distributions, you could expect the following:
- Social Security Tax- Employee 6.2% or $10,850
- Medicare Tax-Employee 1.45% or $3,625
- Social Security Tax-S Corp 6.2% or $10,850
- Medicare Tax-S Corp 1.45% $3,625
So the total tax paid between the business and you is $28,950. That’s around $13,000 more in taxes than if you took a $100,000 W-2 salary. Based on the above, you can clearly see that there are significant tax savings if you can establish a lower reasonable wage for IRS purposes.
There are other levers to consider, though, in reducing your tax liability that we’ll cover next.
How S-Corps Can Reduce Their Tax Burden
Beyond reducing your tax liability through distributions, there are other ways that S-Corp owners can tangibly lower their tax burden.
- Take advantage of expense deductions
- Take advantage of QBI deductions
- Deduct state taxes (if possible)
Take Advantage of Deductions
It’s common knowledge that you can strategically expense items to your business, such as a home office, hiring your children or spouse, and standard business expenses like travel and office expenses. But thanks to the One Big Beautiful Bill Act (OBBBA) passed in July 2025, business owners have many new advantages when expensing large purchases:
- OBBBA permanently restores 100% bonus depreciation for qualified property acquired and placed in service after January 19, 2025.
- OBBBA raises the Section 179 deduction limit from $1.25 million to $2.5 million, with a new phaseout threshold of $4 million, effective for property placed in service in tax years beginning after December 31, 2024. Section 179 is particularly valuable because certain states don’t allow bonus depreciation but generally permit Section 179 expensing.
- Deduct your health insurance. S-Corp owners who own more than 2% of the company can deduct their health insurance premiums, and while those premiums must be added to their W-2 wages, they are exempt from Social Security and Medicare tax.
While these benefits are not exclusive to S-Corps, they are well worth paying attention to, in addition to standard expensing tactics.
Take Advantage of QBI Deductions
Like other pass-through entities, S-Corps also benefit from QBI (Qualified Business Income) deductions, which allow you to deduct as much as 20% of your business’s total income. The IRS defines QBI as the net amount of business income, gains, losses, and deductions.
This is a significant tax-saving opportunity for business owners. The caveat for S-Corp owners is that QBI deductions can be taken from business income but not W-2 wages. This makes lowering your reasonable W-2 wage especially valuable, because the remaining business income may qualify for the QBI deduction.
There are a few caveats to be aware of, though.
If your business is a “specified service trade or business,” such as a lawyer, doctor, consultant, financial planner, or accountant, then the deduction may be limited or eliminated, should your income reach a certain limit. As of 2025, the SSTB deduction limitations are phased out when the owner’s taxable income exceeds $394,600 for married filing jointly and $197,300 for other filers. No deduction is permitted when taxable income exceeds $494,600 for married filing jointly and $247,300 for other filers in 2025.
For any business that is not an SSTB and where the owner’s taxable income surpasses the established thresholds, the QBI deduction for each trade or business could be partially or fully reduced to the higher of either of the following:
- Half (50%) of the W-2 wages that are paid by the trade or business.
- One-quarter (25%) of the W-2 wages, combined with 2.5% of the unadjusted basis immediately after acquisition (UBIA) of qualified property. Qualified property refers to any tangible property associated with a specific trade or business.
Deduct State Taxes Where Possible
S-Corps can take a SALT deduction, which allows them to deduct state and local taxes, but there are a few things to consider.
First, the 2017 Tax Cuts & Jobs Act introduced a $10,000 limit (known as the SALT cap) on the amount of state and local taxes you can deduct on your personal tax returns, including income from pass-through entities like an S-Corp.
As a result, many states have passed a “Pass-Through Entity Tax” (PTET), which essentially allows S-Corps and other pass-through entities to avoid the SALT cap by redefining state and local taxes as an above-the-line business expense rather than an individual expense passed on to shareholders.
S-Corp owners in eligible states who elect the PTET often receive a state tax credit to offset most or all of the tax paid. These rules vary by state, so consult a qualified tax professional if you go this route.
Are You Taking Every Tax Advantage Possible From Your Business?
If you paid over six figures in taxes last year, then chances are good that taxes are your single biggest business expense. The trouble is, most business owners have no idea what they can do to tangibly reduce them.
All it takes is having an advisor who understands how to build a proactive, tax-efficient, and IRS-compliant strategy. That means taking a look at your:
- Compensation
- Deductions
- Exit strategy
- Charitable giving
- Investment strategy
- Retirement saving
If you’re overpaying on your taxes, it’s not because your CPA is withholding information from you – it’s because your CPA is focused on filing your forms correctly rather than thinking strategically about your financial plan.
That’s why we’re offering a no-cost evaluation to assess your tax situation. We partner with the best tax advisory firms across the country who can identify your best areas of opportunity in as little as a free 45-minute call.
Click the button below and schedule a call to see how you can retain more of your earnings and grow your wealth.
All of the above tax information is for information purposes only and is provided to explain the basic tax treatment based on the Internal Revenue Code. Any individual or entity considering any tax strategies should consult with their own CPA or tax/legal advisor who understands their particular tax circumstances and the rules governing their state. In no way is this information intended to be tax or legal advice.
