Draws vs. Payroll
A popular question that is often asked by small business owners is whether they should pay themselves through a taxed payroll system or simply take the money from the business through Owner’s Draws.
My CPA recently answered a client as follows:
“As long as you are NOT a C Corporation, then you can withdraw funds whenever you need. Put the withdrawals in an account in the equity section called “Name” Distributions. What I advise people to do with this process is twofold:
- Don’t use it like an ATM. There shouldn’t be $200 transactions every day. That just makes it look like you think it is a personal bank account. That’s not good. Make the distributions less frequent and more methodical. That said, “cash needs” control everything, so do what you have to do.
- It’s wise to have payroll or separate out payments as a guaranteed payment or 1099 payment that becomes subject to social security tax. The IRS wants this. They like it. It makes them happy.”
Taxed payroll is just that: they are monies filtered to you through a paycheck:
A typical simple Owner’s Draw will look completely different:
Also, keep in mind that the sample paycheck above will be tax deductible for your business, where the Owner’s Draw will NOT be a tax deduction for your company.
In his answer above my CPA was alluding to an important thought: a good practice is to do what makes the IRS happy. When in doubt as to whether to start a payroll system or not, it is a good choice to seek the path that puts you on the tax agency’s good side.
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