The IRS is on the lookout for S Corporations that fail to pay reasonable salaries to shareholders who preform services for the corporation. The failure to pay adequate salary- or no salary at all – to the shareholder-employee is a “Red Flag” for audit by the IRS. It’s important for a S Corporation to properly compensate working shareholders to avoid a big employment tax bill in the future along with interest and penalty. The key to establishing a reasonable salary is determining what the shareholder does for the S Corporation. Initially, we need to understand the source of the S corporation's gross receipts.