How to Pay Yourself as a Business Owner: Salary, Draw, or Distribution?

One of the most common questions new business owners ask is: "How do I pay myself?" The answer depends on your business structure — and the method you choose has real tax implications.

You pay yourself through an owner's draw — simply transferring money from your business account to your personal account. There's no payroll involved.

Tax treatment: All net profit from your business is taxable income, regardless of how much you actually draw. You pay income tax and self-employment tax (15.3%) on the entire net profit — not just what you draw.

Partners take guaranteed payments or distributions from the partnership. Guaranteed payments are subject to self-employment tax; distributions generally are not (but the underlying income is).

S-Corp owners who work in the business must pay themselves a reasonable salary through payroll. This is a legal requirement — not optional.

After paying yourself a reasonable salary, remaining profits can be taken as distributions, which are not subject to payroll taxes. This is the core tax advantage of the S-Corp structure.

What's a "reasonable salary"? The IRS requires it to be comparable to what you'd pay someone else to do your job. Underpaying yourself to maximize distributions is a red flag.

C-Corp owners who work in the business are employees and must be paid a salary through payroll. Dividends paid to shareholders are not deductible by the corporation and are taxed again on the shareholder's personal return.

If you've elected S-Corp status, you must run payroll for yourself. This means:

• Setting up a payroll system
• Withholding and depositing payroll taxes
• Filing quarterly Form 941 and annual W-2

This is one of the added costs of the S-Corp structure — but for most business owners, the tax savings far outweigh the payroll cost.

Need help setting up payroll or figuring out the right compensation structure? The Gap ProAdvisors handles payroll and tax planning for small business owners. Contact us.