C Corp Comp 2025

C Corp Compensation & Benefits 2025

A comprehensive analysis of reasonable compensation, fringe benefits strategy, and the new OBBBA tax incentives.

Executive Summary

The C Corporation stands as a distinct taxable entity subject to a flat 21% federal tax rate. This creates a fundamental tension: corporations want to maximize deductible salaries to zero out taxable income, while the IRS seeks to recharacterize "excessive" pay as non-deductible dividends.

In 2025, the "One Big Beautiful Bill Act" (OBBBA) has introduced novel opportunities—like tax-free overtime—while tightening executive compensation limits. Navigating this requires balancing the "Independent Investor Test" against aggressive tax planning.

Structural Conflict

Deductible Salary vs. Double-Taxed Dividends. The primary goal is often to bypass corporate tax via "reasonable" wages.

IRS Scrutiny

Unlike S Corps (checked for under-payment), C Corps are audited for over-payment of owner-employees.

2025 Shifts

New "No Tax on Overtime" rules and higher SALT caps ($40k) alter the math for bonuses and equity comp.

The Structural Conflict

The "Zeroing Out" Strategy

Closely held C Corps often try to pay all profits as salary to avoid the 21% corporate tax. The limit to this strategy is that compensation must be "Reasonable" (IRC § 162). Anything above reasonable is a "Constructive Dividend."

Constructive Dividend Risk

If the IRS recharacterizes your salary as a dividend:

  1. Loss of Deduction: The corporation loses the deduction for the payment.
  2. Immediate Liability: The corporation owes 21% tax + interest/penalties on that amount.
  3. Double Tax: The shareholder still pays tax on the receipt (though potentially at dividend rates), destroying the tax efficiency.

Reasonable Compensation Defense

How does the IRS determine if pay is "too high"? They use the Independent Investor Test.

The Independent Investor Test

Would an inactive, independent investor be satisfied with the Return on Equity (ROE) generated by the company after paying the executive's salary?

Pass: Company pays CEO $2M but leaves enough profit for a 15% ROE.
Fail: Company pays CEO $2M and leaves the company with 0% or negative ROE.

IRS Red Flags

  • ! No Dividends: A history of high profits but $0 dividends suggests disguise.
  • ! Proportionality: Bonuses match ownership % exactly (e.g., 50/50 owners get identical bonuses despite different roles).
  • ! Catch-up Pay: Paying huge bonuses for "prior years" without board minutes documenting the underpayment at that time.

Fringe Benefits Strategy

C Corps have a distinct advantage over S Corps: owner-employees are treated as "common law employees," eligible for tax-free benefits that S Corp owners (2% shareholders) often cannot take tax-free.

Health Reimbursement Arrangements (HRAs)

Employer-funded plans that reimburse medical expenses (co-pays, prescriptions).

  • Tax Status: 100% Deductible to Corp, 100% Tax-Free to Employee.
  • Constraint: Self-insured plans must not discriminate in favor of executives (Section 105(h)). You generally must offer this to all eligible employees.
Education Assistance (Sec 127)

Employers can provide up to $5,250 per year tax-free.

  • Covers: Tuition, books, and Student Loan Repayment (made permanent by OBBBA).
  • Benefit: Deductible to Corp, Tax-Free to Employee.

OBBBA Impact (2025)

"No Tax on Overtime"

Effective 2025-2028, employees can deduct qualified overtime pay from federal income tax.

  • • Limit: Deduction up to $12,500 ($25k joint).
  • • Strict Definition: Must be FLSA-mandated overtime (hours over 40 @ 1.5x).
  • • Risk: Do not reclassify exempt managers as non-exempt just to get this break. It triggers strict time-tracking rules.

Executive Comp Limits

Tougher rules for public companies under Section 162(m).

  • • $1M Cap: Comp over $1M to "covered employees" is non-deductible.
  • • Aggregation: OBBBA requires aggregating comp across all subsidiaries in a controlled group.

Interactive: Double Taxation Modeler

Visualize why C Corporations prefer salary over dividends. This tool calculates the "Tax Drag" of double taxation on a distributed profit.

Tax Assumptions

Include Fed + State.

Fixed Assumptions:
• Corp Tax Rate: 21%
• Dividend Rate: 23.8% (20% + 3.8% NIIT)
• FICA/Medicare: 1.45% (Assuming over wage base)

Scenario A: Pay as Salary

$0
Corp Deduction: Yes ($0 Corp Tax)
Personal Tax: $0

Scenario B: Pay as Dividend

$0
Corp Tax (21%): $0
Dividend Tax (23.8%): $0
Cost of Double Taxation
$0
Amount lost by choosing Dividend

Defense Checklist

1

Calculate ROE

Before setting bonuses, ensure remaining profit yields a healthy Return on Equity (10-15%) to satisfy the Independent Investor Test.

2

Declare a Dividend

Even a small, consistent dividend signals to the IRS that you are respecting the distinction between labor and capital.

3

Watch the Clock (2.5 Month Rule)

Bonuses accrued in 2025 must be paid by March 15, 2026. For >50% shareholders, pay by Dec 31st to be safe.