How to Set up Payroll for an S Corp: A Simple Guide to S Corp Payroll Processing.

We won’t bother you with the basics of reasonable compensation because we hope you understand it already. Let's jump directly to the subject of S Corp payroll.

Key Things to Know Before You Set Up S Corp Payroll:

1. It’s Similar to Paying Employees, But with Some Tax-Savvy Benefits.

   While processing payroll for yourself as an S Corp owner is much like paying regular employees, there are some accounting strategies that can help you save some $$$. If you don't want to employ these strategies, you can just issue a regular payroll. Payroll is payroll, you withhold the same type of taxes and file the same payroll forms. But if you are curious about S Corp tax hacks, keep on reading! We will cover them later in the blog.

   
   

2. How Things Work Tax Wise:

   Your S Corp payroll will result in a final W-2 form, which will be deducted as wages expense on your S Corp’s tax return, and it will also show up as wages income on your personal return. Tax-wise, it’s a wash, except for payroll taxes, which you’ll pay through your W-2. The key reason you pay yourself through a W-2 is to pay payroll taxes that the IRS wants.

   
   

3. Payroll Forms You Need to Know.

   Besides a W-2, which is issued in January of the following year, there are also four 941 forms. You can think of these forms as some sort of progress forms, and the summary of wages on all forms will be reflected on your final W-2. Forms 941 are issued throughout the year at certain due dates. Yes, throughout the year and not all at once whenever it's comfortable for you. What if you do them all at once, you ask? Well, unless these forms show zero income, you will get payroll penalties for filing late, and those are huge. In many cases these penalties can be more than the tax savings from having an S Corp.

   
   

What Information Do You Need to Set Up S Corp Payroll?

You will need only three things:

1. EIN (Employer Identification Number) and S Corps Address

   EIN is the number you got when you registered your S Corp.

   
   

2. Your Social Security Number and Address

   You know this one—hopefully!

   
   

3. State ID for Your S Corp

   If you live in a state with income tax, you’ll need this ID. Getting it can take time, so don’t procrastinate until the last minute to request it. Missing the deadline could lead to delays in issuing your payroll forms and, as we mentioned, getting penalized with hefty payroll penalties.

   
   

Once you have all the required info, it’s time to decide how to run payroll. Let’s look at your options:

How to Process Payroll for an S Corp:

1. Do-It-Yourself (Not Recommended)

   While it's possible to do payroll manually on paper and it is definitely the cheapest option, we strongly advise against it. Payroll taxes are complex, and each state has its own ever-changing rules. Keeping up with all the tax nuances takes a lot of time and effort—and mistakes could lead to steep fines and audits. This option is risky and time-consuming.

   
   

2. Hire a Bookkeeper or CPA

   A bookkeeper or CPA will take the burden off your shoulders. However, in most cases, they will outsource the actual payroll processing to a payroll company. Contrary to common belief, most of the accountants don't do payroll themselves! Is it always bad? No. Because while coordinating payroll, accountants can also do some basic tax planning, about which we will talk about later.

   
   

3. Work with a Payroll Company Directly

   If you prefer to work without intermediates, you can sign up directly with a payroll company. There are many options available online, and you would need to do your research and choose the one that best fits your needs. Some companies offer great customer service with a representative you can speak to, while others offer strong online tools for you to manage everything on your own. With a payroll service, you'll avoid lots of mistakes, and they’ll take care of filing all necessary reports and forms for you. However, you may struggle with the tax planning aspect, since your shareholder W-2 affects your personal tax liability.

   
   

Tax Hacks for S Corp Payroll, as We Promised

Short Disclaimer, you can’t employ these tax hacks onto your employees (if you have them), since you have a responsibility to pay employees on time for the work performed and for filing their payroll forms on their behalf. But if you are a single S Corp owner, these tax hacks are available to you. The payroll software will handle tax compliance and you will pay your share of payroll taxes. But the timing and tax withholding will be different from what you will see in the standard payroll process.

So, what are the tax hacks you can employ?

1. Use W-2 to Pay All of Your Your Federal and State Taxes. Paying quarterly estimated taxes is “clunky”. Besides, the IRS knows the dates you make those estimated payments, and if you’re late, penalties for late payment will apply. Instead, you could pay your federal and state income taxes through S Corp payroll. With S Corp payroll, you can spread out your taxes over the year instead of making estimated payments. And if tax planning is done correctly, you won’t owe extra at tax season or incur estimated tax penalties. The CPA can calculate your estimated tax liability for the year and you will pay your quarterly estimated taxes through payroll withholdings—no more writing checks, using online portals, or tracking due dates. Technically, you’re not paying estimated taxes, but sending money to the taxing agencies via payroll. But in the long run it is the same thing. You can read more about this tax strategy here.

   
   

2. One Big Payroll Payment at Year-End.

   If cash flow is tight and you don’t want to pay yourself regularly throughout the year, you can file zero 941 forms we mentioned before (the payroll progress reports) for the first three quarters. Since those are zero forms that don't show any income, they also won't have any payroll taxes associated with them. Then, in December, you can pay yourself a large salary for the whole year and file a fourth-quarter 941 form that shows that amount. This approach gives you the flexibility to manage your cash flow, while still making sure your payroll forms are filed on time. With the help of a CPA, you can calculate your exact tax liability and withhold taxes through your S Corp W-2, similar to the tax strategy in step 1.

   
   

3. After the Fact Payroll

   Some shareholders prefer taking distributions from their S Corp instead of doing regular payroll. In our experience these are usually less organized business owners or business owners with unstable cash flow who sometimes don't have funds to pay yourself. If you’re in this situation, a CPA can help you "reclassify" some of those distributions as salary and issue payroll forms for the salary amount so that you can pay the tax. This way, you’ll pay self-employment taxes on the salary portion, but avoid paying tax on the rest of withdrawals. This approach involves working with a CPA, as it requires filing payroll forms after the fact.

   
   

What If Your Business Can’t Afford Salaries?

If your business is struggling and can’t afford to pay salaries, it’s not necessarily required to do so. The IRS requires to pay yourself a salary only when a) the year was profitable. b) if you also withdrew money from your S Corp bank account. You can read more about these rules here.

Final Thoughts:

Setting up and running payroll for your S Corp doesn’t have to be a headache. Whether you do hire a bookkeeper or CPA, or work with a payroll company, the key is to stay on top of your paperwork and deadlines to avoid costly penalties. And don’t forget to take advantage of tax strategies that can save you money!

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