SEARCH, INDEX, UPDATES, CONTENTS, UNDERSTANDING, BASIC ACCOUNTS, CAPITAL ACCOUNTS
A Capital Account records a proprietors interest in the business. This will be based on the value of the assets included in the Balance Sheet which will differ from the value of the assets on sale or realisation of the business.
A Sole Trader will have a single Capital Account with his business. Each Partner in a Partnership will have a Capital Account with the Business (sometimes a Husband and Wife Partnership will have a Joint Capital Account).
A Capital Account arises as soon as a Proprietor conducts any transactions with his/her business.
A simple example will help our explanation -
| £ | £ | |
| Balance brought forward | 11,000 | |
| Capital Introduced - | ||
| Open Bank Account | 500 | |
| Van previously owned privately | 1,250 | |
| Expenses paid privately | 250 | |
| Profit for the Accounting Period | 12,000 | |
| Subtotal | 14,000 | |
| Drawings - | 25,000 | |
| Cash and Cheques | 7000 | |
| Pension Premiums | 600 | |
| NI Contibutions | 340 | |
| Tax and Class 4 NI | 1600 | |
| Subtotal | 9540 | |
| Balance carried forward | 15,460 |
The balance brought forward for this period is the balance carried forward from the last period. Our closing balance of £15,460 will be the opening balance for the next period.
Capital Introduced includes any money a proprietor advances to the business. An example would be the first banking to open a new bank account. An asset already owned by a proprietor which is transferred to the business is another example. If a proprietor pays any expenses on behalf of the business (because it is convenient) and does not reimburse him/herself, this expense can be adjusted as Capital Introduced. This could be a proportion of the proprietors home telephone bill used for business calls.
Drawings are the payments which the business makes to, or on behalf of, the proprietor.
Capital Introduced and Drawings can be shown as single figures, or may be explained in detail, depending on the wishes of the proprietor. There is no formal requirement.
New proprietors of small businesses sometimes refer to their "wages". A self employed person does not have wages. Any Sole Proprietor or Partner is only entitled to (their share of) the profits of the business, and may have to suffer (part of) a loss.
What most people mean by the phrase "wages" is that they need regular drawings to live on. Such "wages" are not charged to the Profit and Loss Account, but to Drawings in this Capital Account. The Profit for the Accounting Period, shown as £12,000 in the example above is added into the Capital Account and provides a balance against which to draw. If the "wages" were charged in the P&L Account, this figure would be reduced.
In some partnerships, it may be agreed that a working partner has a (guaranteed) first share of profit to reflect his "wages".
Directors of Limited Companies normally draw a salary as an employee or receive dividends as a shareholder and may not have any other transactions with the company. If however they lend money to the company, or do not draw all of their salary or dividends, they will have a Directors Loan Account with the company which is similar to the example above, although it will not be credited with the Profit of the business.
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