What it means
In a sole trader business or partnership, the owner is not paid a salary like an employee. Instead, the owner takes money from the business as needed, to pay personal bills or cover living costs.
The drawing account records each of those withdrawals. Drawings are not an expense of the business, and they do not appear in the profit and loss account.
They are a return of the owner's own funds, so they reduce equity directly. This difference matters, because an owner who takes too much out can leave the business short of cash while profit looks healthy.
At the end of the period, the balance on the drawing account is transferred to the owner's capital account. The capital account is then shown as opening capital, plus any new investment, plus profit for the year, less drawings.
Partnerships keep a separate drawing account for each partner, which helps to keep the sharing of profit fair. Drawings can include goods taken for personal use, such as stock from a shop, or personal expenses paid out of the business bank account.
These should be recorded at cost or market value, depending on the accounting policy and tax rules. Mixing personal and business spending without records is a common source of tax problems.
Limited companies do not have drawing accounts in the same way, because the company is legally separate from its owners. Shareholder-directors take money as salary, dividends or loans, and unplanned withdrawals are recorded in a director's loan account.
Choosing the right route has tax and legal consequences, so it should be done with proper advice. Tax and financing add another reason to keep drawings tidy.
Lenders often look at drawings to judge how much of a sole trader's profit is taken out and how much stays to support the business. A clear history of modest drawings can make a loan application stronger.
In practice
Real-world examples
Example 1
A freelance designer transfers $2,000 a month from the business account to her personal account. The bookkeeper records each transfer as a debit to Drawings and a credit to Cash.
Example 2
A greengrocer takes $150 worth of fruit and vegetables home during the year. The accountant records the cost of the goods as drawings, and reduces the stock and purchases accordingly. Without this entry, the shop's profit would be understated by the same amount.
Example 3
Three partners in a small law practice each have their own drawing account. At the year end, each partner's drawings are deducted from their share of profit, and the net amounts are carried forward to their capital accounts. One partner who drew more than her share ends the year with a lower capital balance than her colleagues.
Think of it
A drawing account tracks what owners take out for personal use-withdrawals from the business.
Formula
Calculation
Closing capital = Opening capital + Capital introduced + Net profit - Drawings
Suppose a sole trader starts the year with capital of $100,000. She adds $20,000 of new capital, earns net profit of $60,000 and takes drawings of $45,000. Closing capital = 100,000 + 20,000 + 60,000 - 45,000 = $135,000. Her capital grew by $35,000 because profit exceeded drawings.Case study
Seen in the real world
Hartley and Rowe is an illustrative, fictional partnership of two builders. Each partner took $4,000 a month for personal expenses, and profit for the year was $70,000 in total.
The partners had assumed their $4,000 a month was affordable, because they had never compared their drawings with profit. The accountant pointed out that total drawings were $96,000, which was more than the $70,000 profit by $26,000, and the shortfall had been funded by an overdraft.
The illustrative partners agreed to reduce their monthly drawings to $2,500 each and to review them quarterly against profit. Within a year the overdraft was cleared, and they understood the difference between taking money out and earning it. They also agreed to hold a minimum cash buffer in the business account.
Watch out
Common mistakes
- Treating drawings as a business expense, which wrongly reduces profit and may affect tax.
- Taking out more than the profit each year, which shrinks the owner's capital and can leave the business short of cash.
- Mixing personal and business spending without recording it, which makes the accounts unreliable.
Questions
People also ask
Is a drawing account the same as a salary?
No, because drawings are withdrawals of the owner's funds and are not a business expense, while a salary is a cost to the business.
Does a company have a drawing account?
Generally not, since the company is separate from its owners, and they are paid through salary, dividends or loans.
Is a drawing account the same as a draw against commission?
No, because the first records an owner's withdrawals from their own business, while the second is an advance paid to a salesperson against future commission.
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