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Why your net income number is lying to you

Discussion in 'Business Operations' started by snomaha, Nov 15, 2013.

  1. snomaha

    snomaha LawnSite Bronze Member
    from midwest
    Messages: 1,250

    Stop confusing the profits of your business with your salary/wage. You get paid for what you do and a return on what you own. I dont care if you are a sole prop, S corp, LLC - if you are not figuring in a fair market wage for yourself, your net income number is off.

    Around 10 years ago I was talking with a friend/advisor about taking distributions (we are an S corp). I was taking an artificially low salary and using distributions(lower tax rate) to make up the difference in order to meet personal financial obligations. His point was that by accepting a below market wage, I was overstating the profits of the business. A demanding shareholder would never stand for it. He challenged me to value profitability over tax savings.

    I made the change and increased my salary to fair market. Now when i look at my books i see clean financials and a higher net - I have become a more demanding shareholder in my own company.
  2. DA Quality Lawn & YS

    DA Quality Lawn & YS LawnSite Fanatic
    Messages: 9,280

    I agree really the true basis of profitability is what you as an owner are able to draw. Retained earnings and asset purchases are fine, but you personally aren't getting any richer doing that.
  3. JCLawn and more

    JCLawn and more LawnSite Fanatic
    from MI
    Messages: 5,281

    Amen! This something I realized mid summer and has totally changed how I am running my business.
    Posted via Mobile Device
  4. JFGLN

    JFGLN LawnSite Bronze Member
    Messages: 1,058

    I also run my company as an S corp. How did you determine your fair market salary?
  5. 32vld

    32vld LawnSite Gold Member
    Messages: 3,983

    Mitt Romney during his campaign was attacked for not paying his fair share of taxes because he took most of his income as dividends.

    However the press did not attack all the other millionaires that did the same.

    You friend sold you bum advice.

    Whether you take a $10,000 salary and $90,000 dividends.

    Or take $90,000 salary and $10,000 dividends you still took home the same money. Actual less because you, following your friends advice, put you into a hire tax bracket.

    Mitt and all those other millionaires sleep well at night with the way their books look.
  6. newguy123

    newguy123 LawnSite Bronze Member
    Messages: 1,096

    Great post. In regards to the above statement; how has that caused you to operate different? Advertise differently? ETC.?
  7. Stars & Stripes Landscaping

    Stars & Stripes Landscaping LawnSite Member
    from CT
    Messages: 246

    I do agree 32vld...
  8. JFGLN

    JFGLN LawnSite Bronze Member
    Messages: 1,058

    Quote from the IRS, "S corporations must pay reasonable compensation to a shareholder-employee in return for services that the employee provides to the corporation before non-wage distributions may be made to the shareholder-employee."
  9. JCLawn and more

    JCLawn and more LawnSite Fanatic
    from MI
    Messages: 5,281

    I think hos point was the first paragraph but I see what you guys are saying. This might be an interesting thread where I can learn something.
    Posted via Mobile Device
  10. snomaha

    snomaha LawnSite Bronze Member
    from midwest
    Messages: 1,250

    Not sure what your experience is? Two points to your reply:

    1. S corp dividends are taxed at a much lower rate then my salary. The IRS has made the practice of paying an artificially low wage with taking large dividends one of their "dirty dozen" tax scams. 10k salary - 90k dividend vs 90k salary - 10k dividend is not taking home the same money.

    2. The thread was more about having true financials and how that makes you a more demanding shareholder. If you aren't accounting for your time how do you know your opportunity cost?

    Lastly - I think you are comparing apples and oranges when comparing a small business and how Mitt Romney earns his money.

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