Paying yourself when you and your business are the same person.

A while back, a client of mine told me someone had asked her how much she made last year. She had no idea. She knew what had come in and gone out of the business account, she knew her profit, she knew what she’d moved over to herself, but “what did I make” was a blank. So we talked about it, and I think what I told her is worth sharing, because I’d bet a lot of you have wondered the same thing.

This is the follow-up to the shareholder loans post. That one was for incorporated businesses. This one is for the sole proprietors.

What an Owner’s Draw Is

A sole proprietor is someone who runs their business as themselves, without incorporating. There’s no legal line between you and the business, so when you take money out for yourself, it’s called an owner’s draw.

A draw isn’t a wage and it isn’t an expense. You can’t put yourself on payroll, so there’s no T4, and what you take out doesn’t reduce your profit. It just moves from the business account to your own. In the books, we track it as owner’s equity, which is your stake in the business.

What You Take Isn’t What You’re Taxed On

This is the one I most want you to hear, because almost everyone gets it backwards.

Most people assume that what they take out is what gets taxed. So they track every transfer, add it up, and use it as their tax estimate. But you’re taxed on your PROFIT, which is what the business earned after expenses. Not on what you paid yourself.

That’s the answer I gave her. Her draws told her what she’d moved to her personal account. Her profit told her what she actually made. Those two numbers can be very far apart, and only one of them goes on your tax return.

In short: draw whatever you need to live on, but your tax bill follows the profit.

Where I See Things Go Sideways

I’ll be honest, there are a few things I really don’t love seeing in a sole proprietor’s business account.

Paying personal expenses straight from the business account. Groceries, the family dinner, the kids’ activities. It all has to be sorted out later, and it makes it harder to see what the business is actually doing.

Personal e-transfers coming into the business account. When your sister sends you $200 for concert tickets and it lands in the business account, I have to figure out whether it’s a client payment, a gift, or a repayment. If I can’t tell, I have to ask you, and by then you’ve probably forgotten.

Personal life insurance, or 100% of your home expenses, going through the business. These are personal costs, and they’re not deductible just because they came out of the business account. If you work from home, there may be a portion of your home costs that counts, but that’s a portion, not the whole thing.

None of this is a disaster. It’s just work we’d both rather not do. The easiest fix is to pay yourself with a clean transfer from the business account to your personal account, and keep the two sides separate. If a personal purchase does land on the business card, upload the receipt to Dext right away so I know what it was.

So How Much Should You Set Aside?

Since no tax comes off a draw, someone has to figure out how much you should be putting away for income tax. That’s not a bookkeeper’s job, it’s your accountant’s.

An accountant can meet with you during the year, look at your profit so far and your overall tax picture, and tell you how much to set aside. That’s a much better plan than guessing in the spring. If you don’t have an accountant yet, let me know and I can point you toward someone.

In Short

Your draws are you moving your own money from one pocket to the other. Your profit is what gets taxed. Keep the two sides clean, upload your receipts to Dext, and if you ever want to know what you actually made, just ask me. That’s what the books are for.

Until next time. If you’re not sure where a transfer belongs, send it my way.

— Katrina

This post is for informational purposes only and does not constitute accounting or legal advice.