Are drawings debit or credit? In a business, there are situations whereby owners withdraw part of the business capital. It is important to keep track of such withdrawals in order to maintain the overall capital balance of the company. This calls for including these withdrawals in accounting records. So how to enter the books of accounts matters so as to avoid accounting errors. It is for this reason that the subject matter of whether drawings are debit or credit arises. In this article, we see what drawings imply, a brief explanation of debit and credit, whether drawings are debit or credit, and their journal entries.
See also: Treasury Stock Debit or Credit?
What are drawings?
Drawings mean the act of withdrawing capital, be it cash or assets, by the owners for personal use. In other words, the term refers to money or other assets that are taken out of a business. Aside from being a withdrawal for personal use, it might be as dividends if the company has been made public.
Drawings differ from expenses and wages which cost the business, they are recorded as a reduction in assets as well as a reduction in the owners’ equity. Therefore, it is critical to keep track of these drawings as well as manage them within the company accounts. In essence, drawings usually occur by withdrawing cash from a business account but can also include anything that is considered a business asset such as products or equipment that have been removed from the business for personal use by the owners.
As a reduction in the assets that are equivalent to the withdrawn amount, drawings have an impact on the company’s financial statements as reflected therein. It also represents a reduction in the owners’ equity as the owner is essentially cashing in on a small piece of their entitlement to the company. On the cash flow statement also, drawings will show up since they represent a type of financial activity. This calls for the need for a company’s account department to accurately record them.
When one retracts cash from the business usually in cash form for personal expenses, he must return it to the company by any means. It is either the owner adds the amount of the annual drawings to the business bank account or the equivalent value is deducted from the owner’s equity. In either circumstance, owners are held responsible for the transaction. So, drawings are simply personal expenses and not business expenses. Drawings are offset against the owner’s liability but they are not considered a liability.
The drawings account is an accounting record used in a business that is organized as a sole proprietorship or partnership to record all distributions that are made to the owners of the business. In effect, they are drawing funds from the business as the name implies. There are no tax implications associated with the withdrawn funds from the business’s perspective. This is because it is the individual partners or sole proprietor that pays taxes on these withdrawals.
The accounting transaction that is typically found in a drawings account is a credit to the cash account and a debit to the drawings account. Having stated this, the drawings account is a contra-equity account since it is reported as a reduction from the total equity in a business. Therefore, the drawings account brings about a decrease in the asset side of the balance sheet and the equity side at the same time. So, it is not an expense.
The intention of the drawings account is to track distributions to owners in a single year after which it is closed out with a credit and the balance will then be transferred to the owners’ equity account with a debit. The next year again, the drawings account is used to track the distributions. This indicates that the drawings account is a temporary account.
Usually, in businesses organized as companies, the drawings account is not applicable. This is because owners are, instead compensated either through wages paid or through dividends issued. In a corporate environment, it is also possible to compensate the owners by buying back their shares in a treasury stock transaction. However, this also brings about a decrease in their relative ownership percentage of the business if they are only shareholders and shares are being repurchased. If the company repurchases the shares of all shareholders in equal proportions, then this will have no effect on relative ownership positions.
A drawings account is simply an accounting record that is maintained to track money and other assets that owners withdraw from the business. As earlier stated, it is primarily applicable to sole proprietorships and partnerships. For owner withdrawals from businesses that are taxed as separate entities, this must be accounted for generally as either compensation or dividends.
See also: Is Cash Debit or Credit?
Understanding debit and credit
Debits and credits are used in bookkeeping in order for a company’s books to balance. While debits bring about an increase in asset accounts and expense accounts, they bring about a corresponding decrease in liability, revenue, or equity accounts. For instance, a drawings account brings about a decrease in assets and equity accounts. On the other hand, credits bring about a decrease in asset and expense accounts and bring about an increase in liability, revenue, and equity accounts. Debits and credits balance out each other.
One should consider that every transaction has to be exchanged for something else for the exact same value. Like in situations where money is withdrawn from assets or capital for personal use, those accounts will be credited while the drawings account will be debited with the same figures.
Are drawings debit or credit?
Drawings are debit and NOT credit entries. This is because it shows a reduction in capital or assets or the total money available in the business. It is also not an expense incurred by the business, it is rather a simple reduction in the total equity of a business for personal use. Therefore any account that brings a reduction in a credit account is a debit entry.
As stated under the drawings account, the transaction is a credit to a cash account and a debit to the drawings account, a contra-equity account.
Drawings indirectly impact the company’s assets, particularly the cash account. This change is reported on the company’s balance sheet where the cash account is credited while the owner’s equity is debited. Since the amount of cash does not fully tell us the details, the information that relates to the drawings account is included in the notes to the financial statements.
Debit and credit journal entries for drawings
A journal entry for the drawings account comprises a debit to the drawings account and a credit to the cash account. A journal entry to close a sole proprietorship’s account includes a debit to the owner’s capital account and a corresponding credit to the drawings account.
An account is usually set up in the balance sheet to record the transactions that took place, that is the money removed from the company by its owners. That is the drawings account discussed above. Here, the amount that is withdrawn by the owner will be recorded as a debit and if goods are withdrawn, the amount recorded will be at cost value.
In essence, when drawings are made, a credit should offset the debit in the double-entry bookkeeping system. Typically, the credit goes into another account, in most cases the cash account.
The journal entries for drawings will be as follows:
|Cash or bank (withdrawn for personal use)||00|
Goods can also be withdrawn for personal use. In this case, the drawings account will be debited while the stock account will be credited as follows:
Instead of the stock account, the purchases account can be used as the stock and purchases are being decreased.
As a temporary account, the balance of the drawings will be closed at the end of the accounting period, in the respective capital account. The normal increase in the capital account will be credited. A debit in this case means that there is a decrease in the account. At the beginning of a new accounting period, the drawings account must have a zero balance. The journal entry below shows the closing entry and the balance transferred from the drawings account to the owner equity.
|Owner’s equity/Capital account||00|
|Drawings (deducted from the owner’s account)||00|
This is applicable to both cash and goods.
Drawings debit or credit example
A manufacturer of leather shoes withdrew cash worth $5,000 from an official bank account for personal use. The appropriate journal entry will be as follows:
Debit and credit journal entries for drawings
Debit and credit adjustment for drawings
The adjustment entry to show the decrease in the capital will be as follows: