PAYROLL: US Payroll: New Support for 2% Shareholder Tax Compliance

Keka Payroll now supports special tax compliance handling for 2% shareholders of S Corporations and LLCs electing S Corp status. This update ensures that such employees-typically CXOs or founding members- are processed in alignment with IRS rules, helping prevent W-2 discrepancies and benefit misclassification.

What Is a 2% Shareholder and Why It Matters

A 2% shareholder is an employee who owns 2% or more of an S Corp or LLC, either directly or indirectly (including family ownership). Under IRS regulations, these individuals are not eligible for tax-free health benefits. Failing to comply can lead to inaccurate W-2 reporting and tax risks.

With a large SMB customer base in the US, many clients have top-level employees or founders on payroll. This enhancement provides clear support for proper tax classification and prevents benefits from being misreported.

Key Updates

• 2% Shareholder Tagging
  Admins can now mark employees as 2% shareholders under Finance → Taxes. This is applicable only for employees of S Corps or LLCs treated as S Corps.

• Pre-Tax Benefits Restriction
  Employees marked as 2% shareholders cannot receive pre-tax health benefits, in accordance with IRS regulations.

• Dedicated Earning Components
  Admins can assign taxable benefits using dedicated components:

  • 2% Shareholder Benefits

  • 2% Shareholder HSA

  These currently need to be added to the employee’s compensation. A future update will allow assigning them directly during payroll run.

• Tax Withholding Behavior
  These earnings are reported as taxable income but taxes are not withheld by the payroll system. Employees must pay applicable taxes during their individual tax filing.

For more detailed information, please refer to the resources linked below:

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