If you operate an S Corporation or pay yourself from your own business, you’ve probably heard the term reasonable compensation. The IRS uses this as a benchmark to make sure owners don’t sidestep payroll taxes by only taking distributions instead of salary.
The challenge? The IRS doesn’t publish a fixed number. Instead, “reasonable” means what someone in your role, in your industry, would realistically be paid for the work you perform. That’s a gray area—and gray areas attract audits.
This is where strategy comes in. At Business Advisory and Accounting Partners (B.A.A.P.), we remind clients: Any CPA firm can record history. Our firm will help you build a future.
The IRS looks at multiple factors, including:
For example, if you’re a dental practice owner (like our fictional client Jordan, who runs a $1.2M practice), paying yourself only $40,000 while peers in your field earn $180,000 is a red flag. That’s the kind of gap the IRS challenges.
While tax law expertise still requires a human advisor, AI can speed up the research and planning side. For instance:
Tools like ChatGPT, Copilot, and Claude can scan labor data, salary surveys, and IRS guidance to give you a ballpark. But those ballparks still need an advisor’s judgment to ensure compliance and tax efficiency.
That’s why we encourage clients to use AI as a decision support tool, not as a replacement for advisory.
Owners often ask: “Why can’t I just take all my profits as distributions?”
Here’s the Accountant vs. Advisor difference:
For example, Riley, a law firm partner making $750K, was paying herself only $40K in salary. After working with B.A.A.P., she adjusted to $150K salary and the rest as distributions. That not only reduced audit risk but also freed up $50K+ to fund a retirement plan.
There’s no IRS calculator, but advisors use a combination of:
AI can help gather the data, but interpretation—and strategy—comes from aligning with your overall tax plan.
If audited, the IRS can:
That’s why compensation planning is not just about avoiding trouble. It’s about building a proactive, documented strategy.
Reasonable compensation is only one piece of a bigger puzzle:
At B.A.A.P., we treat compensation not just as a compliance checkbox, but as part of a broader strategy to grow the wealth locked inside your business.
Final thought
Don’t guess your own salary. Document it. Benchmark it. Strategize it.
Want this tailored to your business? Book a call now.
It’s the salary an owner-employee would earn if hired for the same role in a similar business, based on duties, hours, and industry benchmarks.
There’s no fixed rule, but it should align with what peers in your role and industry are paid, while also considering your business’s profitability.
No. That’s one of the top IRS audit triggers for S Corp owners.
Very low or no salary, inconsistent pay patterns, or salaries far below industry norms.
Yes. A proactive plan can improve tax savings, retirement funding, and even the valuation of your business.
