Scorp owner's W-2 income

[Questionguy101]

A Scorp owner paid himself a monthly salary. Now he files the tax return for last year, he found out the dividend on the K-1 is more than what he expected. He is very worried that he will get into trouble with the IRS. Now he wants to pay social security tax on at least part of the dividend. But the year 2010 has passed and he cannot pay himself additional salary for last year now. Is there any way to deal with the situation? His only purpose is to allocate part of the dividend to regular salary so he can pay social security tax on it in order to comply with what the IRS wants.

[Gary2]

Have you pointed out to the client that the IRS also looks down on people who claim too much SE tax, because the effect can be to increase Social Security benefits down the road?

Review the numbers to see if the fear is well founded. If it is, then would it be possible to have the Board of Directors (presumably just him) declare a one-time employee bonus paid in 2011 for exceptional work in 2010? Of course, the corporation has to have the cash to issue the paycheck and remit the taxes.

[Questionguy101]

If it is, then would it be possible to have the Board of Directors (presumably just him) declare a one-time employee bonus paid in 2011 for exceptional work in 2010? Of course, the corporation has to have the cash to issue the paycheck and remit the taxes.

I've thought about it too. But even if he does that, since the business is on cash basis, the bonus paid is still 2011 expenses. He cannot deduct it in the 2010 Form 1120-S tax return. So It does not affect the 2010 dividend (Form 1120-S net profit) at all.

[Gary2]

I've thought about it too. But even if he does that, since the business is on cash basis, the bonus paid is still 2011 expenses. He cannot deduct it in the 2010 Form 1120-S tax return. So It does not affect the 2010 dividend (Form 1120-S net profit) at all.

True, but there's nothing wrong with having a net profit. The problem is having an inadequate salary. While no one could guarantee that the IRS wouldn't make such a ruling for 2010, declaring it as such in 2011 would at least establish that the taxpayer isn't deliberately trying to avoid SE taxes.

Was there a cash distribution in 2010, outside of wages? If so, I'd be curious as to whether it could reclassified as wages, with a corrected W-2C issued, and corrections made on the 940/941. My guess (and I emphasize, guess) is no, but it's an interesting question.

[JohnH]

I'd report the facts as they are and not worry about what's already happened. Getting worked up over what IRS might think about the situation is idle speculation. Did he pay himself a reasonable salary? If so, he probably has nothing to worry about.

One possible after-the-fact move would be to put money into a SEP IRA if he hasn't done so already AND if the corp return is on extension. That is an easy way to lower the reported income in a tax-efficient manner, but the extension has to be in place for it to work.

[ttbtaxes]

I would look at the 2010 W-2 and see if it can be defended as reasonable. If not, then I would determine the "underpayment" and add it to a reasonable salary amount for 2011. 2010 would still be at risk but I would try to defend 2010 using a two-year aggregate compensation argument and showing what you did.

If it were still January 2011, I would likely have a different answer.