Once a business starts to become profitable, most business owners will generally take money from their business as an owner, although this will depend on the type of business in question. In fact, the way any business owner gets paid from his/her own business will depend on the type of business it is, the stage of that business, and how much money is actually needed for personal expenses.
How Business Owners Get Paid
Most business owners will either take money out of their business as a draw or as a distribution. A draw is defined as a direct cash payment to someone who is a sole proprietor of a given business, whereas distribution is a share that an owner can take from the business. There are some significant differences between draws and distributions, especially when it comes to tax reporting.
Anyone who has a single-member limited liability corporation, or who is the sole proprietor of a business, is eligible to draw money from that business. This is handled as an accounting transaction, and it does not appear on the tax return of the business owner. When distributions are made, these are generally for partners in a corporation, and they have to be recorded on a Schedule K–1, which does show up on the business owner’s tax return.
In much the same manner as a partner would take a distribution, any member of a multiple-owner limited liability corporation or an S-corporation would also take a distribution. This too would have the full amount recorded on a Schedule K-1 form.
How Draws/Distributions Should Be Taken
Business owners can take a draw from their business or a distribution of profits in any amount they want, although they should not take money which is necessary for paying bills, business loans, or employees. Once you have a well-established business, you should be able to draw money from your business regularly, depending on what your personal financial situation is. Whenever draws are taken from a business, they should not be taken from profits, because those are not actually in the bank. Instead, it should be taken from a business bank account, after ensuring that business obligations have been met for the month.
Is Your Business Not Yet Paying Off?
Sometimes to make a business really profitable, it’s necessary to invest additional capital for growth. If your business is in this situation, contact us at GP Solutions, so we can discuss some options for funding your business growth.