Do you take regular cash drawings from your business profits to meet personal living costs? You need to be aware of how your personal drawings sit with your tax position.
Sole traders complete an IR3 tax return at the end of the year. Include all business income and expenses in your tax return. Drawings are not a deductible business expense they are not separately disclosed in the tax calculation but they will form part of the accounts disclosure which accompanies the tax return to IRD. It’s much easier to track this if the cash drawings are taken like a regular salary or wage: weekly, fortnightly or monthly.
Record your drawings for personal use in a cash book or with accounting software. Make sure you do your forward planning so there is enough money in the business to cover the bills after you take your drawings.
Partnerships are largely in the same position as sole traders: you can take regular drawings from the business profits. These are not deductible so don’t include them as a deductible expense in the end-of-year partnership return. The split of profits to the partners at the end of the year does not take into account any drawings taken from the profits.
There is the option for a partner to be paid a salary or wage if there is a written contract of service and this might suit you and the business better. PAYE would be deducted from your salary or wage like a regular employee. You could then claim this salary or wage as a deductible expense in the partnership’s end-of-year return.
If your business entity is a company, you have more options. Shareholder-employees can:
- draw money from the company periodically throughout the year. These drawings are recorded in the shareholder current account as a loan. At the end of the tax year, the company calculates a salary amount from the company profits and credits the current account with this amount. You must pay income tax on this, at your marginal tax rate declared on your IR3 Individual income tax return. It is not a deductible expense for the company
- be paid a regular salary, whether monthly, fortnightly or weekly. PAYE is deducted as for a regular employee provided you have an individual employment contract with the company. The company can claim this salary as a deductible expense in its end-of-year return
- receive dividends from the company profits, after the tax on those profits has been paid
The company can pay directors and management fees from its profits. These may be included as deductible expenses in the company’s end-of-year tax return.
Whatever the business entity, as with other business records, you must keep records of all drawings, salary or wages for at least seven years.
Circumstances will be different for everyone, and it’s important that you get this right. Please contact us if you want to discuss this further with us.