Discussion:"S" Corp Salaries, special circumstance

Beginning in 2008(missed the deadline), my LLC is going to take an "S" election. I'm looking for suggestions on how to determine owner-employee salaries. At the moment, all employees are also owners, and I don't expect to have any non-owner employees for the forseeable future.

Here's the tricky part: The business is professional gambling. In this line of work, your income is largely a function of your capitalization. A professional gambler who can make $10,000 in a year with $10,000 in capitalization could make $100,000 a year with $100,000 in capital. Skill is obviously critical, but a good high stakes player isn't necessarily any more skilled than a good low stakes player. Therefore, one could argue that a small salary/dividends ratio is appropriate, particularly for well-financed players. Of course this is preferable for me, because it reduces employment tax.

A second complication is that wages are almost always commission based. The way we've been doing it so far is that players get paid out at the end of winning months, in proportion to the amount won; they get nothing during losing months. I'd prefer to keep it this way. Should I, for any reason, insist on stable salaries instead? For instance, are heavy monthly fluctuations in payroll taxes likely to spur the IRS to try to redistribute my wages and dividends in a less palatable fashion?

Any thoughts?

Thanks, Monty

Distributions need to be set according to capital or shares invested, but the salary should be paid in a reasonable amount irregardless of the original investment of money...

I would carefully define compensation & how it is calculated - similar to those in sales where earnings are commission driven. You may choose to leave a certain percentage of earnings with the company to cover overhead & later possible distribution. I would be consistent & use a formula to support adequate earnings.

That being said - I have never heard of setting up a company to gamble professionally. Is this a professinal poker player, or are you gambling in AC & Vegas?

On another note, what's the benefit of joining up with other gamblers in a corporation?

The problem is that there aren't any industry standards for what a professional gambler should make, partly because - as szptax suggested - there aren't many professional gamblers set up as a business with wages, etc. So I have no idea how to determine a reasonable salary. I think I'll just make sure player salaries increases a little each year, while distributions should increase more rapidly. Thank you for the suggestion of using a consistent formula. . . I will have to work out a formula that produces this result.

Not a poker player; I play all over the west coast.

As far as the benefits of joining up: Gamblers cannot carry forward losses from one year to the next. As a result, it is critical that we put in enough time each year to make sure we're in the black. The less we play, the greater the chance of a downswing that leaves us in the negative, and this ultimately cuts into our edge substantially. In our case, none of us gamble full time, but if we pool our time and winnings/losses, we'll end each year in the positive, with a very high probability.

That's the main advantage of playing as a group; another advantage is the large amount of playtime reduces the flux inherent in gambling, ie we're hedging our bets against each other. This ends up producing more consistent returns. There are other advantages too but these are the main two.

Why would a gambler want to split his winnings?

Why would a lucky gambler (someone on a lucky streak) want to split his winnings for 3 years in a row with you five losers?

Well, I'll take that over the constant stream of nonsense I get from typical gamblers any day. I tell you, there is no testament to the over self-assuredness of humankind that comes close to the crap you hear from people regarding gambling. Even friends I've known to be highly intelligent and broad-minded are quick to make claims that are not only incorrect, but are not backed up by any sort of reasoning or argumentation.

So, Kevinh5, to answer your question, an advantage gambler wouldn't want to split his winnings with someone who "knows in his heart" that Pai Gow Poker has the best odds in the house(even if the gentleman in question had won 3 years in a row), whereas he'd be more interested in teaming up with the University of Chicago stats professor who has developed strategies for beating the house by capitalizing on weaknesses/mistakes in their games(even if the professor in question was one of your five losers). We know the odds are set up to favor the house. We also know the house is run by humans, and humans make mistakes.

Why split winnings at all? See my post above.

Here, unless I miss something, the shareholders will take their salaries in some percentage of their winnings. Simple business sense will say that 100% of the winnings will not be paid out because there is overhead, and then to encourage shareholders to purchase more stock, enough earnings must be left in the corporation to distribute profits. E.g., if I invest 100K to the common pot, I would like to have a return on my money, and while I understand that my return is based on the efforts of the group, if I find my own results are on the wrong side of the ledger, I might defer my own gambling and ride the winners.

I am curious how the corporation divvies up the money in play. If ten gamblers each put up 10K, can Mr. A [I suppose we should give them color names like some Tarentino film] take a stake of 20K into play?

Oh well, to each his own.

The gamblers themselves are the largest shareholders. We have a few passive investors, but their stake is small. Therefore most of the profits will end up back in the gamblers pockets anyway, whether in the form of wages or distributions. . . I want to maximize the amount paid out distributions, as opposed to wages, but not in order to attract additional capital. Rather, the point is to reduce my employment tax bill.

I am curious how the corporation divvies up the money in play. If ten gamblers each put up 10K, can Mr. A [I suppose we should give them color names like some Tarentino film] take a stake of 20K into play?

Yes, something like that. This sounds like something that would happen on a poker team, which isn't us, but basically, the answer is yes.

"The other cut goes towards distributions, which are paid in proportion to the amount of capital owned" I assume (hope) by capital owned you mean shares of stock owned.

But is this any different from any other small S-Corp? As I understand it, people start S-Corps to minimize SE tax all the time, no? The income from my business, like any other, is really partly derived from the work we put into it, and partly from its success as an investment. That would be my defense, and I've seen some literature suggesting this is common and generally ok with the IRS, so long as you don't pay yourself $1 in wages and $10,000,000 in business income.

You would disagree with that, then?

If each gambler merely gambles and wins, he's got line 21 income, not normally subject to SE tax. Of course, you have to itemize to offset your losers, if you have any. Ahem. And no other expenses would be allowed. When should that activity be on a Sch. C? I dunno. Just yakking out loud.

So, the IRS has historically tried to pigeonhole gamblers as recreational(line 21) or professional(generally schedule C) players, depending on which would create the greater tax liability. I'd much prefer to simply file line 21, and skip investors altogether, but I suspect they'd make me refile as a business.

The problem with the whole idea, though, is that the OP seems to be moving toward the S corp entity as a means of avoiding payroll taxes. In an S corp payroll be made in accordance with winnings, but non-payroll distributions must be made in accordance with stock ownership percentages. If everyone owns 20% of the stock, everyone gets 20% of the distributions whether they won or lost money.

But this is not a problem for me. . . gambling winnings are highly subject to flux, and you really need a sample size of 10+ years of play to start to accurately judge a gambler's skills. As TonyM noted, there are many comparisons one could make with the stock market. In gambling as in investing, you gotta know how to accurately size up the wager, and then stick with it. So, we want payment proportional to ownership interests.

Remember if you allocate too much profit to the S-corp and less to wages you have to share the subsequent distributions with the nonplaying shareholders. Distributions have to be in proportion to stock ownership.

Right. We'll control this, to some extent, by limiting the max capital contributions by non-players, and by doing 401k matching and other benefits to direct the money back to players as much as possible.

"The other cut goes towards distributions, which are paid in proportion to the amount of capital owned" I assume (hope) by capital owned you mean shares of stock owned.

Apologies for slaughtering the language. As an LLC, as I understood it, we don't exactly have stock, right? Or is it still called stock?

You're a professional gambler-not a tax professional. To do what you want to do - you SHOULD NOT be an S Corp. There's more flexibility with LLCs than with S Corps. S Corps have specific rules dealing with ownership, distribution percentages, distribution rules, etc. In any tax situation (with few exceptions), everything must be split in the same proportionate ratio as stock ownership. To do otherwise would automatically revoke the S Corporation status. I strongly suggest you and your "partners" rethink the S status, unless you wish to gamble with IRS in an audit.

It doesn't sound like a good idea to me. Why are each of you not playing on your own?

Sorry, that was my first post.

The thread is bringing back the days of the 'Beatle.'