The LLC Draw vs S Corp Salary Strategy: What Most Owners Get Wrong (and How to Legally Pay Yourself More)

Thousands of LLC owners are walking into audit risk or wasting money every year—not because they’re reckless, but because no one tells them the stark difference between taking an LLC “draw” and structuring S Corp salary. IRS statistics show that owner-pay mistakes are one of the top five triggers for IRS and state audits in 2025—especially as self-employment income continues to skyrocket and pandemic-era side hustles mature into six-figure businesses.

Quick Answer: If you own an LLC, you have two primary—legally distinct—ways to pay yourself: as a draw (for LLCs taxed as a sole prop or partnership) or as a salary plus distributions (if your LLC elects S Corp status). S Corp status can help you save thousands in self-employment tax if you do it right, but get it wrong (or do it for the wrong income level), and you’re at risk for penalties or overpaying the IRS.

How LLC Owners Actually Pay Themselves: The IRS’s Two-Track System

Let’s break the myth: There is no “official” IRS paycheck for you as an LLC owner—unless you choose S Corp taxation. Here’s how it works in real life:

• Single-Member LLC: You are taxed like a sole proprietor. All business profit (not just what you withdraw) is reported on Schedule C of your 1040. You take money out as a draw—just transfer it from business to personal. No W-2. No “salary.”
• Multi-Member LLC: The LLC files Form 1065, and each member gets a K-1 showing their share of profit/loss. Each can take a draw based on their percentage.
• LLC Taxed as S Corp: File Form 1120S. The IRS requires you to pay yourself a reasonable salary (reported on W-2), plus distributions. Distributions are only taxed for income, not self-employment tax—this is the tax break everyone talks about.

Here’s a real scenario: Emily owns 100% of her LLC and brings in $95,000 in net business profit for 2025. If she stays an LLC and takes only draws, she pays self-employment tax on the full $95,000. If she elects S Corp status, pays herself a $55,000 salary, and takes $40,000 in distributions, only the salary is hit with self-employment tax—the $40,000 gets a tax break.

The real tax break in the LLC draw vs S Corp salary strategy is how much profit you shield from self-employment tax. The IRS only applies the 15.3% self-employment tax to W-2 wages in an S Corp — not to the distribution portion. For owners in the $80k–$150k range, this can translate to $6,000–$12,000 in annual savings, provided you document “reasonable salary” under IRS Publication 535.

Case Study: How Much Can You Really Save? (With Numbers)

Let’s run the math. The current self-employment tax rate is 15.3%. For LLC draw-only:

• Draw Only Method (no S Corp): On $95,000 profit, Emily pays 15.3% SE tax = $14,535
• S Corp Election: Pays 15.3% SE tax only on $55,000 salary = $8,415. Her $40,000 distribution is free of SE tax—saving $6,120 per year.

This is why, for many LLC owners earning above $50,000 (and especially past $80,000), making the S Corp election is a game-changer. Below that ($40k–$50k net income), it’s usually not worth the extra payroll and compliance costs.

What Forms Do You Need? (And Why the IRS Cares)

LLC compensation runs on a unique documentation trail. Here’s the translation:

• Schedule C (Form 1040): For sole owner LLCs. Report all income/expenses, pay SE tax on profit.
• Form 1065 & K-1: For partnerships/multi-member LLCs. Reports each member’s share. Each pays their tax on their portion, whether or not the cash is distributed.
• Form 1120-S & K-1: For S Corps. S Corps must process payroll and issue W-2 to owner/employees, plus K-1 for the profit split.

Fail to use the right form and you can face IRS scrutiny. Missing the S Corp payroll step (owner not paid a “reasonable salary”) is a top audit trigger for 2025. Underpayment, overpaying, or taking all your profit as distribution is a fast route to penalties and reclassification.

An overlooked detail in the LLC draw vs S Corp salary strategy is payroll compliance. Once you elect S Corp status, the IRS expects quarterly payroll filings (Forms 941 and 940) and a W-2 issued to the owner. Skipping these filings or treating all compensation as “draws” often leads to reclassification audits, back payroll taxes, and penalties that can erase years of savings.

FAQ: What’s a Reasonable S Corp Salary in 2025?

The IRS expects S Corp owner salaries to match what you’d pay someone else to do your job. For most service businesses, it’s 30–60% of net profit. If you net $100,000, the old $35k salary rule won’t fly anymore—target $50k–$60k and justify with comparable industry wages. Use BLS data to back up your figures.

🔴 The Common Tax Mistake Costing LLC Owners Thousands

Here’s where most business owners blow it: They either take 100% draws from an LLC earning $120k+ (and overpay SE tax by $8,000 to $12,500 yearly) or go S Corp too early and collapse under compliance headaches they didn’t expect (late payroll filings, S Corp CA fees, missed deadliness).

• Trap #1: Not adjusting your pay method as your income grows. If you cross the $50,000 line and don’t reassess, you’ll overpay or start breaking payroll laws.
• Trap #2: Paying yourself no salary at all as an S Corp. This is the top reason IRS audits S Corps in California and nationwide.
• Trap #3: Not documenting the “draw” properly (mixing business/personal, no paper trail)—a huge audit risk under AB5/CA law.

Fast Fix: For LLCs under $50,000, stick to draws. Over $50k, re-run the numbers every January, document your compensation, and use professional payroll.

💡 Pro Tip: Always pay yourself from the business account—and keep a log for every draw, salary, or distribution, even if it’s just a note in your accounting app.

How to Set Up the Right Pay Structure for Your LLC (Step-by-Step)

1. Calculate your annual net profit. Use your business accounting app or bank statements for accuracy.
2. If profit is $50,000 or under: Use the draw method—just transfer funds from business to personal as needed. Log every transaction.
3. If profit exceeds $50,000: Analyze S Corp savings. Calculate a reasonable salary (ideally with payroll software), set up payroll, and take additional distributions from remaining profits. File proper IRS forms (Form 2553 for S Corp election).
4. Keep documentation for ALL payments. Whether draws, salary, or distributions—paper trail trumps memory in an audit.
5. Review every year. Profit rises/falls, and so does your best pay method—update strategy every tax season.

💬 FAQ: The Questions Every LLC Owner Asks (But Few Get Answered)

Can I Take Both a Draw and a Salary?

Only if you’ve elected S Corp status. LLCs (not taxed as S Corps) take only draws; S Corps must issue a W-2 salary, and then take distributions (the IRS doesn’t care if you skip distributions, but skipping salary is audit bait).

How Do I Decide When to Switch to an S Corp?

There’s no single number, but $50,000 is a good floor for savings after considering payroll costs, CA fees, and bookkeeping. Start the process two months before year-end if you think you’ll need S Corp status for the following tax year.

Is There a Penalty for Paying Myself Wrong?

Yes, up to 25% of back taxes owed, plus interest and penalties for late payroll tax filings. California has additional S Corp minimum fees (see FTB S Corp Fee guidance).

What If I Miss Making My S Corp Election?

You could lose tax savings for the year and face IRS fines. You can do a late election, but must justify “reasonable cause” for the delay. Do not assume your CPA or payroll provider automatically files—track the deadline yourself: Form 2553 is due within 75 days of the start of the tax year you want S Corp status to begin.

IRS Publication References and Latest 2025 Guidance

• Schedule C basics (IRS)
• About Form 1065 (IRS)
• About Form 1120-S (IRS)
• About Form 2553 (IRS)

This information is current as of 10/2/2025. Tax laws change frequently. Verify updates with the IRS or FTB if reading this later.

Book Your LLC Compensation Strategy Session

If you’re unsure whether you’re paying yourself the smartest—and safest—way as an LLC owner in 2025, don’t leave it to chance. Book a private compensation analysis with our KDA tax strategists and leave with a tailored LLC pay plan that could save you $5,000 or more in penalties and taxes. Click here to book your 2025 LLC compensation session now.