If you’ve formed an S-Corporation, congratulations — you’ve already made a smart move toward saving on taxes.
But there’s one mistake I see over and over again that can undo all those savings… and land you in serious IRS trouble.

It’s something even seasoned business owners overlook:
👉 Not paying yourself a “reasonable salary.”

Let’s talk about what that means, why it matters, and how to fix it — before it becomes an expensive mistake.

⚠️ What Is the Common S-Corp Payroll Mistake?

Here’s the simple version:
Most S-Corp owners skip paying themselves through proper payroll — thinking they can just take owner’s draws or 1099 payments instead.

But the IRS doesn’t see it that way.
As an S-Corp owner, you’re both a shareholder and an employee. That means you’re required to pay yourself a reasonable salary through payroll — with W-2, payroll taxes, and withholdings.

Failing to do so can trigger:

• IRS audits

• Back taxes and penalties

• Loss of S-Corp status

🧾 What Does the IRS Mean by “Reasonable Salary”?

The IRS expects your salary to reflect what someone in your role would earn for the same work in your industry.

For example:

• A consultant making $120,000/year might pay themselves $70,000–$80,000 as salary and take the rest as distributions.

• A marketing agency owner might do $60,000 salary, and the rest in profit draws.

There’s no fixed percentage, but most CPAs recommend 50–70% of your net income as a reasonable salary benchmark.

🧮 Why This Mistake Hurts So Many Business Owners

Here’s the problem:
When you don’t pay yourself a proper salary, you:

• Avoid FICA taxes (temporarily), but risk huge IRS penalties later

• Lose retirement contribution eligibility

• Raise a red flag for audits

• Undermine your S-Corp’s compliance record

Even if your accountant “lets it slide,” the IRS has become far more aggressive in catching underpaid or unpaid S-Corp owners.

✅ How to Fix an S-Corp Payroll Mistake (Step-by-Step)

If you’ve been skipping payroll, don’t panic — here’s how to get back on track:

Step 1: Start paying yourself via payroll ASAP (don’t wait until year-end).
Step 2: Use a reliable payroll service (e.g., Gusto, ADP, or QuickBooks Payroll) that handles W-2s and tax filings.
Step 3: Work with a CPA to determine a reasonable salary for your industry.
Step 4: File any back payroll taxes if needed — it’s better to correct it proactively.
Step 5: Keep a clean record of your salary payments, taxes withheld, and distributions.

📹 Watch: How to Fix Your S-Corp Payroll Mistake

💬 Real Example

One of my clients, a digital agency owner, paid herself only in draws for two years. When the IRS audited her S-Corp, she was hit with over $12,000 in back taxes and penalties.

We fixed it by setting up payroll through Gusto, correcting her filings, and adjusting her compensation — saving her from even bigger trouble.

🧠 Pro Tip from a CPA

If your S-Corp earns under $40,000/year, keep your salary reasonable (around 40–50%).
If it earns over $100,000, make sure your salary aligns with industry averages — the IRS uses public data to cross-check.

Remember:
💬 It’s not about avoiding taxes — it’s about being compliant while optimizing your structure.

📋 Frequently Asked Questions (FAQ)

❓ 1. What happens if I don’t pay myself at all?

You could face back payroll taxes, penalties, and interest, and your S-Corp election could be revoked.

❓ 2. Can I adjust my salary mid-year?

Yes. You can update your salary if your business income changes — just keep documentation.

❓ 3. What’s the best payroll software for S-Corps?

Popular options include Gusto, ADP, QuickBooks Payroll, and Rippling — all handle compliance and filings.

📚 Final Thoughts

The biggest mistake S-Corp owners make isn’t forming the wrong entity — it’s misunderstanding how payroll actually works under that entity.

Get compliant, set up proper payroll, and stay proactive — because the IRS isn’t forgiving when it comes to payroll errors.