Great question! The reasonable compensation rule applies specifically in cases where the owner makes withdrawals from the S Corp. Because of the way S Corps are designed, owner draws are tax free. So to prevent taxpayers from abusing this option, the IRS stipulates owners must pay themselves a reasonable salary and remit FICA taxes.
In this situation, however, the company is brand new and the owner has most likely not withdrawn much, if any money. Consequently, they won’t be flagged for not paying themself a salary since their owner draws are minimal to none. If they would rather contribute the company’s profits to charity, they are definitely able to do so.
Best practice with S Corp wages is the 60/40 rule. Any monies going to the owner from an S Corp should be split into 60% salary and 40% draws.
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Sarah is a staff writer at Keeper Tax and has her Enrolled Agent license with the IRS. Her work has been featured in Business Insider, Money Under 30, Best Life, GOBankingRates, and Shopify. She has nearly a decade of public accounting experience, and has worked with clients in a wide range of industries, including oil and gas, manufacturing, real estate, wholesale and retail, finance, and ecommerce. Sarah has extensive experience offering strategic tax planning at the state and federal level. During her time in industry, she handled tax returns for C Corps, S corps, partnerships, nonprofits, and sole proprietorships. Sarah is a member of the National Association of Enrolled Agents (NAEA) and maintains her continuing education requirements by completing over 30 hours of tax training every year. In her spare time, she is a devoted cat mom and enjoys hiking, baking, and overwatering her houseplants.