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    5 Replies Latest reply on Apr 28, 2008 2:01 PM by MEP_Engineer

    Is our accountant right? (Claiming Profit as Distribution)

    MEP_Engineer Newbie

      Hello, I own (together with a partner) a MEP Consulting Engineering Firm in South Florida (S Corp).


      As many entrepreneurs, I like to do everything by myself (One day I will learn, jiji). For that reason I keep my own Quickbooks, do payroll thru Bank of America (which by the way is free as long as everybody you pay to have a Bank of America Account) and I use to do our own taxes on previous years. The past two years we had losses, so I felt comfortable using TaxCut but on 2007 we had a profit (Woo hoo!!!) so we decided to start a relationship with an accountant (yes.. I know I am late but we filed an extension).


      This morning we had our first meeting with our possible future accountant. Everything was normal until we asked how should we (the owners) get paid? Ex.: W2s, 1099s, K-1s, etc. His answer was: As long as we have a salary (and he suggested $15K) we can write ourselves as many checks we want for the balance (which is a lot higher than $15K) and claim it as "Distribution". By doing that we do not have to pay ANY type of taxes, when we asked him again, he said: no federal tax, social or medicare. (WOW!!)


      Of course we don't like to pay taxes, but generally when something looks too good to be true is because is not that good or is not true. But we have never heard of any payment to the principals where they don't have to pay any type of taxes not even in their personal taxes like he mentioned to us.


      The question is: Is he right or should we keep looking for another accountant?


      Sorry for the long post, but I tried to explain everything in this first post. Thanks in advance.
        • Re: Is our accountant right? (Claiming Profit as Distribution)
          dublincpa Scout
          I can't tell whether he is wrong, explained it badly or you didn't get what s/he said. I will attempt to explain better and let you decide. I am assuming that you only work in FL.

          The S Corp makes money. If it makes decent money, the IRS wants you to take a "reasonable" salary as owners. (What is reasonable is longer than I can address now.) That salary reduces the profit. You as owners pay tax on your distributive share of the profits whether you get one dime of distribution.

          If the profit after W-2s of $15 for each of two owners is $100 and you each own 50%, you each pay Fed, SS and Medicare taxes on $15 of wages. You also pay Fed tax on $50 each of net profit. A cash basis consulting firm without too much leverage should allow you to take close to $50 each in distributions. Being accrual basis, being leveraged and a host of other factors can make it so there is not enough cash to distribute even when there is taxable profit.
          • Re: Is our accountant right? (Claiming Profit as Distribution)
            LUCKIEST Guide
            Hello, and welcome to this web site.
            Is our accountant right?? ALL ACCOUNTANTS are right.
            Some accountants are MORE right.
            I have like " dublincpa " answers in the past.
            Not to get mixed up with who is right (or more right), another suggestion.
            You have used Tax Cut in the past.
            Use it for 2007 and put in the numbers (as you and your accountant see it)
            and see if the final results come out the same as what your accountant says.
            Then you can answer your question " Is he right or should we keep looking for another accountant"??
            Good luck, LUCKIEST
            • Re: Is our accountant right? (Claiming Profit as Distribution)
              Lighthouse24 Ranger

              Everyone agrees, your "reasonable" salaries are taxable (bonuses are, too).

              Now I'm not an accountant (so weigh this accordingly), but here's my business owner's DIY explanation of distributions: Distributions are a "return of basis" -- i.e., you already paid income tax on the money you put into the company as an investment, so the IRS isn't looking to tax it again when you take it out as a distribution -- at least, not until you've taken out more than you invested (which I think would be considered a capital gain . . . but that particular aspect of the scenario is beyond my personal experience, LOL!).

              Hope this helps (and I hope it's correct!). Welcome to the community and best wishes.
              • Re: Is our accountant right? (Claiming Profit as Distribution)
                nytaxguy Wayfarer
                I am a CPA in NY. DublinCPA is correct. It all comes down to whether a W-2 salary paid from the corporation is "reasonable" . If it reasonable, then any remaining net income from the corp will get taxed to you on your individual return via Sch E and you will pay tax on it. The corporation is then free to make a tax free distribution to you in an amount that is usually equal to the net income. This distribution allows you to pay the tax that you will have to pay whether you take the distribution of not. The remaining money is your after tax money from the corporation. Remember the W-2 salary must be reasonable.
                • Re: Is our accountant right? (Claiming Profit as Distribution)
                  MEP_Engineer Newbie

                  Thank you guys for you answers. I completely understand it now. That's the answer I was looking from, because I ask our accountant three times the same questions and he answer answered that you do not pay taxes for any non salary contribution. I only wanted him to explain that I am paying taxes for the net income anyway. Thanks again.