Your S corporation has to pay you reasonable compensation for the services you provide to the corporation. If your corporation pays your health insurance premiums, does that change the salary amount you need to pay
yourself?
First, The Basic Rules
As we gone over in other blogs, if you are a 2 percent or greater S corporation shareholder, you follow the three steps below to create your health insurance tax deduction:
- The S corporation pays for your health insurance premiums directly or reimburses you for the expense.
- The S corporation includes the value of the payment or reimbursement in box 1 of your W2 (but not in boxes 3 or 5).
- You deduct the health insurance premiums on Form 1040, line 29 (assuming you qualify for the deduction, which in your case should be easily done).
Fringe Benefits and Your Salary
The law requires that as an S corporation owner-employee, you pay yourself reasonable compensation for the services you perform for the
corporation.
Your reasonable compensation is the total value of remuneration you receive from your corporation, including both cash salary and benefits.
Reduce the Salary and Realize Two Benefits
Say that your health insurance cost is $10,000. If you reduce your cash salary by the $10,000 (versus increasing it by $10,000), you have two good tax outcomes:
- You’ll save 15.3 percent in FICA taxes on the $10,000 decrease in cash wages (assuming your salary is less than $128,700).
- You’ll increase your possible Section 199A deduction by up to $2,000 (20 percent of $10,000) by avoiding the additional wage expense that would otherwise reduce your qualified business income.
Final Thoughts…
If your S corporation pays or reimburses your health insurance premiums and you qualify to deduct the insurance as self-employed health insurance, that income becomes 100 percent tax-free to you. You pay neither income nor payroll taxes on that amount.
If you don’t factor your S corporation’s payment of your health insurance premiums into your reasonable compensation, then you’re overpaying payroll taxes and reducing your Section 199A deduction.
It’s important to revisit your salary and what constitutes reasonable compensation whenever major changes happen in your life and/or your business.
If you would like to discuss this strategy in more detail, please call me at 509-543-7600.