Avoiding IRS Scrutiny on S Corp Executive Compensation By: Mark Corey, CPA Date: 1/21/2010 Executive Compensation The IRS says that “The Internal Revenue Code establishes that any officer of a corporation, including S corporations, is an employee of the corporation for federal employment tax purposes.  S corporations should not attempt to avoid paying employment taxes by having their officers treat their compensation as cash distributions, payments of personal expenses, and/or loans rather than as wages.” The tax code requires that an employee shareholder of an S Corporation receive a “reasonable salary” for services rendered to the corporation.  What is a “reasonable salary”?  There is no specific guidance, but the IRS offers the following factors to consider when establishing salary. These are also areas that they look at during an audit. They are: Training and experience Duties and responsibilities Time and effort devoted to the business Dividend history Payments to non-shareholder employees Timing and manner of paying bonuses to key people What comparable businesses pay for similar services Compensation agreements The use of a formula to determine compensation Fringe Benefits During an audit, the IRS will look for taxable fringe benefits that are paid to executives and not included in their W-2 as wages.  The IRS audit guidelines alert auditors to be on the lookout for the following fringe benefits that may not be treated properly as taxable wages: Athletic Skyboxes/Cultural Entertainment Suites Awards/Bonuses Club Memberships Corporate Credit Card Executive Dining Room Loans - No Cost/Low Cost Outplacement Services Qualified Employee Discounts Security-related Transportation Transportation Costs Employer-paid Parking Transfer of Property for Services Relocation Expenses Non-commercial Air Travel Spousal or Dependent Travel Wealth Management/Qualified Retirement Planning Some of the items listed can be non-taxable fringe benefits depending on how they are handled, and the particular facts and circumstances of your situation. If you have any concern that your S Corporation is not handling executive compensation or benefits correctly please contact your tax advisor.