FRA: Drawings

readerreader Experienced MentorPosts: 1,039MAAT, AAT Licensed Accountant
Hello everyone

I have just come across the concept of drawings (again) and have been thinking about it.

If I was an accountant advising a client what advice should I give him/her:

1) Take a large salary and have no drawings, OR
2) Take a small salary and have large drawings?

What option is better for the business and owner? Or are are both options equally fine.

Comments

  • sdvsdv Experienced Mentor Posts: 585Registered
    William or Bill?

    For the owner of a businss; Drawings are his Gross Salary and Gross Salary are his Drawings.

    You will be in a better position to advise your client once you have a good understanding of Personal and Business Tax
  • readerreader Experienced Mentor Posts: 1,039MAAT, AAT Licensed Accountant
    Thanks
  • Bookworm55Bookworm55 Trusted Regular Posts: 479Registered
    reader wrote: »
    Hello everyone

    I have just come across the concept of drawings (again) and have been thinking about it.

    If I was an accountant advising a client what advice should I give him/her:

    1) Take a large salary and have no drawings, OR
    2) Take a small salary and have large drawings?

    What option is better for the business and owner? Or are are both options equally fine.

    Have you confused drawings with dividends? There are tax differences between being an employee of a company (and receiving a salary) and being paid dividends by the same company. (even if your client is the owner of that company)
  • readerreader Experienced Mentor Posts: 1,039MAAT, AAT Licensed Accountant
    I have heard of the term dividends but I don't know what that word means, I'll have to look it up.

    Want I don't understand is why can't an owner be part of the payroll, why does he/she have to take their wages as drawings?

    Also, if a company becomes VAT registered, does that automatically mean it becomes a Ltd. company?
  • Bookworm55Bookworm55 Trusted Regular Posts: 479Registered
    reader wrote: »
    I have heard of the term dividends but I don't know what that word means, I'll have to look it up.

    Dividends are a share of the profits of the business, returned to the owners.
    reader wrote: »
    Want I don't understand is why can't an owner be part of the payroll, why does he/she have to take their wages as drawings?

    A sole trader and his business are inseperable. He can't "pay" himself a salary, because he's the same legal entity. A limited company can pay its owners a salary, because they are separate legal entities.
    reader wrote: »
    Also, if a company becomes VAT registered, does that automatically mean it becomes a Ltd. company?

    VAT registration and being a limited company are two different things. A company can be VAT registered, an individual proprietor can be VAT registered. A business must register for VAT if its turnover reaches a certain threshold.
  • readerreader Experienced Mentor Posts: 1,039MAAT, AAT Licensed Accountant
    Thanks a lot Bookworm55; well explained.

    Another question, when does a sole trader / partnership know when it's right to become a Ltd company, and how does the business go about becoming a Ltd company?

    I know that with VAT registration, when a business has a turnover of £68K they'll register with HMR&C, but how do things work when a business tries to become Ltd?

    I know the advantage of Ltd company status, i.e. the owner and business are separate, but I just don't understand the finer details e.g. when does an owner knows it right to go for Ltd status and how s/he would go about doing so.
  • RinskeRinske Font Of All Knowledge Posts: 2,453Registered
    Blegh I was typing an answer with that it doesnt really matter and totally depends on the company and then realized that I don't really know if I am right or not.

    I mean it sounds to me like you are thinking all sole traders should become limited if they are bigger/ considering something/ want to change, but sole traders can stay sole traders and grow as big/ change as much as they like. Limited companies just got other plusses and minusses then sole traders or partnerships.

    It's like comparing it to different people, you won't tell an accountant to turn into a salesperson, just because he would then be able to make more money. But if he is an accountant and a good salesperson, he might want to start selling accountancy stuff to other companies, because it might have other advantages. Which probably only confuses you more, but what I'm trying to say is that if a company is a certain type, it doesn't have to change, unless it wants to take advantages of certain plusses that another type has.

    Sorry, I think this is a useless post from me, hopefully someone can explain it properly to you soon!
  • sdvsdv Experienced Mentor Posts: 585Registered
    reader wrote: »
    Thanks a lot Bookworm55; well explained.

    Another question, when does a sole trader / partnership know when it's right to become a Ltd company

    Generally speaking when an accountant is discussing the tax planning with his client; the amount of the taxable profit will prompt the accountant to suggest the change in the status of the business from sole trader/partnership to a Limited company.

    For year 2009/2010 if the taxable profits are above £37400 (for each partner) the tax payable on any taxable profits above £37,400 will be payable at 40%.

    However, if these profits were of a Limited Company the tax payable will be at 21% on the whole of the taxable profits. Resulting in saving of Tax expense of just under 50%.

    It sounds (looks) simple. But there are a lot of other considerations and calculations to be taken into account before changing the business status to a limited company. Such as:

    • How much tax savings?
    • Real tax savings (dividends taxed up to 40%)
    • Differed tax implications
    • Business expansion plans
    • Inheritance Tax planning
    • Relationship between partners
    • Bank Loans
    • Creditor’s/ Supplier’s approval
    • Land Lord/ leasing premises implications
    • Etc………

    reader wrote: »

    and how does the business go about becoming a Ltd company?


    Cheaper to buy an off the shelf company and change the company name or use a specialist company for this purpose.
  • readerreader Experienced Mentor Posts: 1,039MAAT, AAT Licensed Accountant
    Thanks a lot sdv; that was a really clear explanation.
  • kellyriddellkellyriddell Feels At Home Posts: 84Registered
    Reader I dont know if this will be any use to you but a company can be VAT registered voluntarily if they are under the compulsary threshold, also if they wish to become Ltd they need to register the company with companies house, you used to require a managing director and company secretary however now the only requirement is a managing director.
  • kellyriddellkellyriddell Feels At Home Posts: 84Registered
    SDV - what is the tax on a sole traders profits?
  • sdvsdv Experienced Mentor Posts: 585Registered
    what is the tax on a sole traders profits?

    There is a difference between TAXABLE profits and ACCOUNTING profits.

    We have to work out the accounting profits by applying the accounting policies and principles. This you will/are learning at the intermediate level.

    Taxable profits are ascertained from accounting profits after making allowable adjustments by Revenue and Customs. You will learn that in detail, when you will learn the tax units at Technician level.

    But, generally, a sole trader’s profits are taxed under personal tax.

    From the taxable income he will be given a TAX FREE income allowance of £6,475
    There after for the first £2.440 he will pay a tax of 10% on that income;
    For the next £34960 he will pay a tax of 20%
    And any income after 34,960 a tax of 40% is payable.

    For example; a sole reader has a taxable profit of £50,000
    He will pay a tax of £9.686.

    1. On first 6475 tax payable is.................................................0
    2. Next band on first £2,440 x 10%.......................................244
    3. Next band on next £34,960 x 20%..................................6,992
    4. Next (50,000-6475- 2440-34960)=6125 x 40%...............2,450
    5. Total Tax payable..........................................................9,686

    See the following website for the current tax rates

    http://www.direct.gov.uk/en/Nl1/Newsroom/Pre-BudgetReport2008/DG_172915
Sign In or Register to comment.