Tax Implications of Your Payment to Yourself as a Business Owner

• Reading Time: 8 Minutes
• Published: January 30, 2023
• Last Updated: January 15, 2025

Managing the payments for yourself as a business owner is as important as managing the payment for your employees. Though you can hire payroll processing services for both purposes, it is important to know the legal requirements and laws regarding employee and business owner remuneration. You might have enough knowledge about employee payroll, but what do you know about how to pay yourself as a business owner? There are different methods via which you can pay yourself for your efforts as a business owner based on different factors, including business structure.

This blog is a continuation of our previous blog regarding “How to pay yourself as a business owner” where we have discussed the different methods for paying yourself as a business owner. If you have already read it or already know about the topic, you can continue reading to know more about the self-payments made by a business owner. However, if you don’t know much about business owner remuneration, you can read our previous blog to gain some basic information about the topic before moving on to the next part. In this second part of the topic about business owner payment, we will talk about the tax implications of your payment to yourself as a business owner.

Different Types of Business Structures

The payment a business owner chooses to pay himself depends on the type of business structure he has. As there are numerous business structures, the methods and limits of payment or remuneration to the business owner also vary. It is important to know about business structure, business owner remuneration regulations requirements, and the tax implications of each payment method. The payroll processing services hired by you, in-house or outsourced, make the right payroll management decisions based on this information. However, before jumping to payment methods and their tax implications, let us know about the different types of business structures.

• Sole proprietorship
• Partnership
• LLC (Limited Liability Company)
• NFP (Not-for-Profit)
• S-Corp
• C-Corp

Methods to Pay Yourself As a Business Owner

When it comes to paying yourself as a business owner, you can choose a method based on what type of business you run. There are three main methods through which you can pay yourself for your hard work in managing your business in total. You must be careful while using the payment method to ensure compliance with relevant laws and regulations. The wrong remuneration can result in you paying fines for the payments you made to yourself. To avoid facing these issues, you can hire help from a payroll processing services provider, in-house or outsourced. But before you go for a service provider, let us understand the different methods to pay yourself as a business owner. The methods include:

1. Salary- Salary is a fixed amount you regularly receive from your business. When you pay yourself a salary from your business, you are considered a business employee and owner. This method applies to NFP, LLP Corporation, S-Corp, and C-Corp business owners.
2. Owner’s draw- Under this method, you can withdraw money from your business for your personal use. You can use this method only if you are a member of a sole proprietorship, partnership, single-member LLC, multi-member LLC, and S-Corp.
3. Dividends- Dividends are the payments received by shareholders of a business from the after-tax business earnings. Dividends are declared, and the amount is transferred to the shareholder’s personal bank account. As a business owner of a C-Corp or LLC Corporation, you can pay yourself dividends for the number of shares you hold.

Tax Implication of Every Self-Payment Method For Business Owners

Now that we know the different business structures and methods for business owners to pay themselves, it is time we dive into the next and the main part of this blog. Let us know about the tax implications of every business owner’s self-payment method.

No matter how what method of self-payment you choose, you have to pay taxes as required by the law. Failure to comply with the laws and regulations can cause the business and business owner to pay fines and penalties as required by IRS. However, keeping track of the payments and taxes while managing the business can be very difficult. So, you can simplify the process and relieve yourself of some responsibilities; you can choose accounting outsourcing. The accounting outsourcing services providers help you manage your entire accounting function, including payroll. They will help you determine and calculate the right payment for you as a business owner as per the law and help process it accurately. Besides finalizing the payment, they also help the tax to be paid on the owner’s remuneration.

Following are the tax implications of payment business owners make to themselves as per different payment methods:

1. Owner’s draw: Taking money from your business for personal use is called an owner’s draw. It allows you to receive an income from the company without having to commit to a traditional payroll structure. Owner’s equity consists of different funds, including the money you have invested in your business. Owner’s draws are a great solution for business owners with fluctuating monthly profits. While up to 100% of the equity can be drawn out, this will decrease the funds available for business operations.

a) Sole proprietorship business owners withdraw owner’s draws as a form of remuneration. There are no income taxes, Social Security, or Medicare taxes deducted from your owner’s draws. However, you’ll have to pay all those taxes when you file your personal tax return, so set aside money to pay for them.

b) Under the partnership, business owners pay themselves via the owner’s draw, and the partners share the amount among themselves. Every partner must include these draws in their personal income tax return. One must remember to confer with any partners before making any withdrawals, as it could result in mistrust and reduced cash flow.

c) When it comes to LLCs, the rules and regulations vary in every state. Therefore, it is important to check the relevant state laws to determine the owner’s draw rules for LLC business owners. Owner’s draws in LLC and any passthrough entity are not taxable for the business. However, when an LLC operates as a partnership, the partners must pay a 25% income tax on their share of the business earnings, irrespective of how much they draw. The partners are not required to pay income tax on their draws again, but they must pay 15.3% of self-employment tax on the amount withdrawn as the owner’s draw.

d) In the case of S-Corp, the owner’s draw or Distributions are not subject to employment taxes. They are considered the personal income of the shareholders and are taxed accordingly. However, the distributions are tax-free up to the stock basis of a shareholder. Once the distributions exceed the stock limit, they are taxed as per the relevant laws and regulations.

2. Salary: When the business owners identify themselves as an employee of the business, they receive a salary for their hard work in managing the business. Salary is a regular and fixed remuneration with an upfront tax deduction.

a) Under taxation rules, LLCs must pay self-employment taxes on the entire business profit amount. However, when an LLC operates as a corporation, the business owners are hired as employees and are paid a salary. If the LLC is an S-Corp, the business owners only need to pay income tax and payroll taxes on their salary. They don’t have to pay any corporation tax. On the other hand, an LLC operating as C-Corp is double taxed. Business owners must pay corporation tax on their business earnings and income tax on their personal earnings, i.e., salary.

b) The S-Corp business owners must pay themselves a reasonable salary, i.e., a salary similar to the other counterparts in the same business and in the same position. S-Corp business owners must pay income tax on their salary from the business. They don’t need to pay any taxes on the distribution amount, whether in cash or stock.

c) C-Corp business owners are treated as employees as well as business owners. They are double-taxed. IRS charges corporation tax on the business earnings, and the business owners also have to pay income tax on their salary.

3. Dividends: Dividends are the investment income business owners receive as shareholders with respect to the shares they hold. Most of the time, business owners draw money from the business beforehand, which is later declared as dividends once a year. An S-Corp, C-Corp, and an LLC operating as Corporations are the only ones that declare dividends to their shareholders.

a) LLCs running as Corporations must pay corporation tax on the dividend given to the shareholders. So, the business owners have to pay corporation tax on declaring dividends as well as income tax on the dividends received by them as it is considered their personal income. However, the dividends paid by S-Corp are exempt from tax up to the stock basis of business owners.

b) S-Corp business owners don’t have to pay any taxes on the dividends until the dividend amount does not exceed their stock basis. In case the dividends exceed the limit mentioned, they are taxed as capital gains in the business owner’s income tax, but at a lower rate than the normal incomes.

c) The entire dividend amount received by C-Corp business owners as shareholders will be taxed under their income tax.

Conclusion

Taxation plays a very important role in a business’s finance management, and the payroll tax is a big part of it, be it an employee’s or business owner’s payroll. Though both payrolls are important, the payments business owners make to themselves might sometimes be confusing. Therefore, it becomes crucial to understand how business owners pay themselves and what are the tax implications of such payments for the business and the business owner.

But, managing it all by yourself can sometimes become too difficult and distracting for you to focus on your business activities. So, you can get help from accounting outsourcing services providers to make the process easier and relieve you of some stress. The outsourcing service providers take care of accurately calculating the payroll as per laws and regulations and ensure timely payments. They also help file and pay taxes on the business earnings as well as the payroll expenses. The trick is to get the right service provider as per your business needs. You have to determine your requirements and consider the best service provider from the list of options based on their expertise and experience.

In case you are looking for an accounting outsourcing service provider to manage your finances, you can contact us at Whiz Consulting. We have a team of experts who specialize in handling different accounting functions with their knowledge and years of experience in helping numerous businesses in various industries. Make the right choice for your business at the right time, and enjoy long-term benefits.

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