One of the great things about owning and operating a small business is the flexibility that comes with it. Compared to working for someone else as an employee, starting a company and becoming a small business owner can allow more flexibility in the use of time, as well as more flexibility around how and when to receive income from the company.
This income flexibility can be great, but there are several pitfalls that can trip up the unsuspecting owner. In this article I will talk about the Shareholder Current Account, which is one of the trickier and least understood aspects of small business accounting.
What is a Shareholder Current Account?
When a company is set up, the shareholders will put in money to get the business started. This is often called ‘working capital’ and it might be used to buy a digger, a van or tools. This money that the shareholder has introduced to the company forms the opening balance of the Shareholder Current Account (often simply called the Current Account).
Other ways the Current Account is increased (in accounting terms this is called ‘credited’) are when the owner purchases items for the company using personal funds, or when the company uses something paid for by the owner, such as home office space or a personal vehicle.
On the other hand, a Current Account is decreased (‘debited’) when the owner takes drawings from the company or the company pays for something on behalf of the owner.
Often at the end of the tax period a Shareholder Salary will be declared to match the drawings and bring the Current Account back to a neutral or ‘credit’ position.
The Current Account can be thought of as a bank account that the shareholder has with the company. It is a running balance of the amount the company owes the shareholder, or the amount the shareholder owes the company.
It is preferable for the Current Account to be in ‘credit’, which means there is a net loan from the shareholder to the company. Problems occur when the Current Account becomes overdrawn, meaning the shareholder has taken more money out of the company than was put into it. This is treated as a loan from the company to the shareholder.
What happens when a Current Account is overdrawn?
There are a few problems with an overdrawn Current Account. First, the company must declare interest income from the overdrawn balance, on which it must pay income tax. A second issue is that if the company goes into liquidation, the Current Account will be called up by the liquidator who will pursue the shareholder personally for the loan. Finally, an overdrawn Current Account suggests a shareholder who is living beyond their means and leaning too heavily on the company for their personal income and lifestyle. This in turn can lead to cashflow issues and make the whole structure shaky.
Summary
It is common for small company owners to have at best a very vague notion of the Current Account, as it can be a tricky concept to get to grips with. If you own a small company and are hazy on the topic, it will be worthwhile making it a focus point the next time you meet with your accountant.
Comments