[oldtractorguy]

Should a sole proprietor always take a draw as opposed to a salary? When would a salary be better than a draw for the sole proprietor?

[cdad]

A draw can be a percentage of net. A salary is a steady pay amount regardless.

[excon]

Hello old:

It doesn't matter what you call it, because at the end of the year, you're taxed on what's left after your expenses are deducted from your gross income. That number may or may not correspond with what you take every week.

I'd estimate how much that might be, because if you owe more than what you took, you're going to have to come out of pocket.

Just make sure, even if you call it a salary, that you DO NOT take out payroll taxes. That happens at the end of the year.

excon

[morgaine300]

There's no such thing as a salary for a sole proprietorship. While it's true that you are taxed on what's left after expenses are deducted, you have to know what you can and cannot count as an expense. Payments to the owner are not an expense and are not deducted for taxes purposes. Even if you counted it as an expense on your books, you'd have to add it right back in for tax purposes.

The net income of the company is considered to be yours, whether or not you take any drawings. You report what your company did on a Schedule C (it's much like an income statement), and the bottom line number from that goes on the first page of the 1040 and gets included with your reportable income. This is regardless of what you draw out of the company, and regardless of whether you choose to call it a salary or a draw.

This means you may be paying taxes on earnings that you haven't drawn out, or you may end up drawing out a lot more than what you're paying taxes on. The two don't correspond. You can make them relatively the same if you know about what your net income for tax purposes is going to come out to.

For accounting purposes, it's still not salary, not following GAAP anyway. It's a drawing. Everything the company earns belongs to you. (Minus expenses.) And that ends up in your capital account. You either draw it out or you don't. If you do, it reduces the capital balance -- it's not counted as an expense.

The easiest way to think of it is like a bank account. If you stick money into a bank, it's yours. It's just sitting somewhere else besides your pocket. If you earned interest, you have the option of taking the interest out of the account or letting it sit. You will be taxed on it whether you leave it sit or whether you take it out. If you take it out, you wouldn't call it an expense, right? You simply moved it from the bank back to your pocket. If you think of the interest earned as your "net income," it basically works the same way.