How to Properly Handle S-Corp Distributions and Payroll in QuickBooks Desktop

Understanding S-Corp Distributions and Payroll

What Are S-Corp Distributions?

S-Corp distributions are payments made to shareholders from the profits of the business. These distributions are not subject to self-employment taxes but are taxed as income on the shareholders’ personal tax returns. It is crucial that these distributions are separate from regular payroll to avoid legal and financial complications.

What is Reasonable Compensation for S-Corp Owners?

The IRS requires S-Corp owners who actively work in the business to receive “reasonable compensation” in the form of a salary, which is subject to payroll taxes. Determining reasonable compensation depends on factors such as:

• The nature of the business.
• The owner’s role and responsibilities.
• Industry standards.

Underpaying yourself can result in penalties, while overpaying can impact profitability and cash flow.

Handling S-Corp Distributions in QuickBooks Desktop

Step 1: Create an Equity Account for Distributions

1. Go to the Chart of Accounts by clicking on the Lists menu.
2. Select New > Equity and name the account, such as Shareholder Distributions.

Step 2: Record Distributions

To record a distribution:

1. Navigate to Banking > Write Checks.
2. Select the bank account and enter the shareholder’s name.
3. Use the equity account (e.g., Shareholder Distributions) in the Account field.
4. Enter the distribution amount and save the transaction.

Step 3: Track Distributions for Tax Reporting

Generate reports to track total distributions for each shareholder:

1. Go to Reports > Custom Reports > Transaction Detail.
2. Filter by the Shareholder Distributions account.
3. Save this report for your tax preparer.

Setting Up Payroll for S-Corp Owners in QuickBooks Desktop

Step 1: Enable Payroll in QuickBooks Desktop

1. Go to the QuickBooks Home Screen and select Employees.
2. Choose Payroll Setup and follow the guided steps to set up payroll.
3. If you haven’t already, subscribe to a payroll service such as Enhanced Payroll or Assisted Payroll.

Step 2: Add the S-Corp Owner as an Employee

1. Navigate to the Employees Center and click on New Employee.
2. Enter the owner’s details, including name, address, and Social Security Number (SSN).
3. Assign the appropriate salary under the Compensation section.

Step 3: Designate the Owner as an Officer

QuickBooks allows you to classify employees as corporate officers:

1. In the employee setup, look for the Additional Info section.
2. Check the box for Corporate Officer and save changes.

Step 4: Set Up Payroll Items for the Owner

1. Go to the Lists menu and select Payroll Item List.
2. Click on Payroll Item > New and set up payroll items like salary, federal taxes, and state taxes.
3. Ensure proper tax deductions, including Medicare and Social Security.

Step 5: Process Payroll

Run payroll for the S-Corp owner like any other employee. Ensure their salary reflects the “reasonable compensation” determined earlier.

Best Practices for Managing S-Corp Distributions and Payroll

1. Separate Payroll from Distributions

Always keep payroll and distributions distinct to avoid IRS scrutiny. Payroll is subject to taxes, while distributions are not.

2. Pay Payroll Taxes on Time

QuickBooks Desktop offers payroll tax management tools to help you calculate and pay federal, state, and local taxes on time. Late payments can result in penalties.

3. Document Reasonable Compensation

Keep detailed records of how you determined reasonable compensation for S-Corp owners. Use industry benchmarks, time logs, and performance metrics to support your calculations.

4. Reconcile Accounts Regularly

Reconcile your bank accounts and equity accounts monthly to ensure payroll transactions and S-Corp distributions are recorded correctly in QuickBooks Desktop.

5. Use Classes for Better Tracking

Leverage QuickBooks Desktop’s class tracking feature to separate S-Corp payroll and distributions for reporting purposes:

1. Go to Edit > Preferences > Accounting > Company Preferences.
2. Enable class tracking and assign classes to payroll and distributions.

6. Consult with a CPA or Tax Professional

S-Corp compliance can be complex. Work with a qualified tax advisor to ensure payroll and distributions are handled correctly and meet all legal requirements.

Common Mistakes to Avoid

1. Misclassifying Distributions as Payroll

Mixing up payroll and distributions can lead to tax underpayments and IRS penalties. Always record these separately in QuickBooks Desktop.

2. Paying Inadequate Salaries

Paying yourself less than a reasonable salary to reduce taxes is a red flag for the IRS. Ensure salaries are competitive and justified.

3. Ignoring Payroll Taxes

Failing to pay payroll taxes can lead to severe consequences, including fines and criminal charges.

4. Not Tracking Distributions

Without proper tracking, you might overpay distributions, impacting your company’s financial health.

Leveraging QuickBooks Desktop Features for Efficiency

Automation

QuickBooks Desktop automates payroll calculations, tax deductions, and reporting. Use features like scheduled payroll to streamline processes.

Reports

Generate detailed payroll and distribution reports:

• Payroll Summary: Provides an overview of salaries, taxes, and deductions.
• Equity Summary: Tracks distributions for each shareholder.

Integration with Tax Tools

QuickBooks Desktop integrates with tax software, making it easier to prepare and file accurate tax returns.

Conclusion

Managing S-Corp distributions and payroll in QuickBooks Desktop requires careful attention to detail and a solid understanding of IRS regulations. By following the steps outlined in this guide, you can efficiently handle these tasks, maintain compliance, and ensure your business’s financial integrity.

Regularly updating your QuickBooks records, separating payroll and distributions, and leveraging the platform’s advanced features can save you time and prevent costly errors. For complex situations, consulting with a CPA or financial advisor is always a wise decision. By staying proactive and organized, your S-Corp can achieve both compliance and profitability.