Reasonable Compensation Calculator - Cost Approach

Client Name

Business Name

Tax Year

Date Prepared

Why This Matters

The IRS requires S-Corp shareholders who perform services to receive "reasonable compensation" as W-2 wages before taking distributions. The Cost Approach calculates what it would cost to replace you with hired employees for each function you perform.

🎯 The Key Insight

Don't think of yourself as "the CEO" or "the owner." Instead, identify every specific task you do. Most business owners spend the majority of their time on lower-level tasks (admin, customer service, operations) that would cost far less to replace than executive work.

The Goal: Only count time as "executive/strategic/managerial" when you're truly doing high-level work that couldn't be delegated to a manager. Be specific and honest about what you actually do each day.

Step 1: Identify Your Business Functions

Review each function below. Check off every role you personally handle and think about what percentage of your work time goes to each. Be specific—if you're answering emails and scheduling, that's administrative work, not CEO work.

Executive/CEO/Strategic High-level planning, major business decisions, investor relations, board meetings, long-term strategy. Only count this when it's truly C-suite work.

Sales & Business Development Finding new clients, sales calls, proposals, networking, closing deals, relationship building.

Operations / Service Delivery Delivering your product or service, project management, quality control, fulfillment.

Administrative Emails, scheduling, paperwork, filing, office management, correspondence, general tasks.

Bookkeeping / Financial Invoicing, bill pay, reconciling accounts, financial tracking, expense reports.

Customer Service / Client Support Client communication, support calls, handling questions or complaints, follow-ups.

Marketing Social media, advertising, website updates, content creation, branding, campaigns.

IT / Technical Technology setup, troubleshooting, software management, systems administration.

HR / People Management Hiring, training, managing employees or contractors, performance reviews, payroll oversight.

Step 2: Document Your Time Allocation

Estimate your average weekly hours for each function you perform. Be honest—this documentation is your foundation for audit defense.

Important: Most owners overestimate executive time. If you spend 3 hours a day on emails, calls, and scheduling—that's admin and customer service, not CEO work.

Business Function	Hours/Week	% of Time
Executive / CEO / Strategic		0%
Sales & Business Development		0%
Operations / Service Delivery		0%
Administrative		0%
Bookkeeping / Financial		0%
Customer Service / Support		0%
Marketing		0%
IT / Technical		0%
HR / People Management		0%
Other:		0%
TOTAL	0 hrs/wk	0%

Step 3: Research Market Rates

For each function you perform, find what that role pays in your geographic area. Use entry-to-mid-level salaries for most functions—not senior executive rates.

Recommended Salary Data Sources:

Bureau of Labor Statistics (BLS): bls.gov/oes
Salary.com: Local market data by job title
PayScale: payscale.com
Indeed Salary Search: indeed.com/salaries
Glassdoor: glassdoor.com/Salaries

Tip: Search for the actual job title that matches the work, not "owner" or "CEO." For admin work, search "Administrative Assistant." For bookkeeping, search "Bookkeeper." Use your city or metro area for location.

Step 4: Weighted Average Calculation

Function	% of Time	× Market Rate	= Weighted Value
Executive / CEO	0%	$0	$0
Sales & Business Dev	0%	$0	$0
Operations	0%	$0	$0
Administrative	0%	$0	$0
Bookkeeping	0%	$0	$0
Customer Service	0%	$0	$0
Marketing	0%	$0	$0
IT / Technical	0%	$0	$0
HR / People Mgmt	0%	$0	$0
Other	0%	$0	$0
WEIGHTED REASONABLE COMPENSATION			$0

Calculated Reasonable Compensation

Based on weighted average of market rates for functions performed

Tips to Legitimately Minimize Compensation

✓ Delegate high-value functions: Hire a part-time sales rep, VA, or bookkeeper. Every function you outsource removes it from your required compensation.

✓ Document part-time status: If you legitimately work 25 hours/week (documented), your compensation should reflect part-time work.

✓ Build systems: The more your business runs on systems rather than your personal effort, the lower your required compensation.

✗ Red Flags to Avoid: Don't claim $50k W-2 on $500k+ net income without rock-solid documentation. The higher your distributions relative to W-2, the more IRS scrutiny you'll face.

Documentation Checklist

Maintain a file with the following for audit defense:

✓	Required Documentation
	Time log summary (2-4 week tracking period)
	Salary survey data with sources and dates
	Calculation worksheet showing weighted average (this form)
	Job descriptions for each function performed
	Evidence of delegation (contractor invoices, employee job descriptions)
	Geographic location used for market rate research

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