In S-corporations, a failure to comply with the definition of "reasonable" salary means that the IRS can reclassify the profits as wages and tax the amount at the personal income rate.

Question

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This is true. The IRS considers it an abuse of the S-corporation structure if shareholder-employees are not paid reasonable compensation for the work they perform. If the IRS determines that the salary is not reasonable, they can reclassify some or all of the profits as wages and tax them at the personal income rate.

In S-Corporations, a Failure to Comply with the Definition of "Reasonable