Owner’s draw, also known as owner’s withdrawal or distributions, refers to the funds that business owners withdraw from their business for personal use.

How the owner’s draw is taxed depends on the legal structure of the business…

1. Sole Proprietorship and Partnerships

• Pass-Through Taxation – In sole proprietorships and partnerships, business income and losses pass through to the owners’ tax returns.
• Taxation of Drawings – The owner’s draw is not taxed as a separate entity. Instead, it is considered a distribution of profits or a reduction of the owner’s equity in the business.
• Tax Treatment – The owner’s draw is typically not subject to income tax at the business level. Instead, the owner includes the amount of the draw as personal income on their tax return.
• Self-Employment Taxes – Owners may be subject to self-employment taxes (Social Security and Medicare taxes) on the portion of their draw that represents business profits. These taxes are typically calculated on Schedule SE of the owner’s tax return.

2. Limited Liability Companies (LLCs)

• Pass-Through Taxation – Like sole proprietorships and partnerships, LLCs are pass-through entities for tax purposes.
• Taxation of Distributions – Similar to partnerships, the owner’s draw in an LLC is not taxed at the entity level but is reported as personal income by the owner.
• Self-Employment Taxes – LLC owners who are actively involved in the business may be subject to self-employment taxes on their share of the business profits.

3. S-Corporations

• Pass-Through Taxation – S-corporations are pass-through entities, meaning that business income and losses flow through to the shareholder’s tax returns.
• Taxation of Distributions – The owner’s draw in an S-corporation is not subject to self-employment taxes, unlike income from active participation in the business.
• Dividends vs. Salary – The tax treatment of owner’s draw in an S-corporation depends on whether it is classified as a dividend or salary. Distributions that are considered dividends are taxed at the individual’s ordinary income tax rate, while salary payments are subject to payroll taxes (Social Security and Medicare) at the individual and corporate levels.

4. C-Corporations

• Double Taxation – In C-corporations, the owner’s draw is subject to double taxation. The corporation pays taxes on its profits at the corporate tax rate, and then shareholders pay taxes on dividends received from those profits.
• Taxation of Dividends – The owner’s draw in the form of dividends is taxed at the individual’s ordinary income tax rate. Shareholders may also be subject to qualified dividend tax rates, which are generally lower than ordinary income tax rates.

How the owner’s draw is taxed depends on the business structure and whether it is classified as a pass-through entity or subject to corporate taxation. Business owners need to consult with tax professionals or accountants to understand the tax implications of owner’s draw and ensure compliance with tax laws and regulations.