How do you handle accounting if an owner's yearly draw is more than their % of profits?

Question

Do they owe the business the balance? How does this affect their taxes if their K-1 is lower than their draw?

Answer 1

That would be called their "salary" in the world of accounting.  If their only salary is the % of profits, you should never have allowed the money to reach him in the first place.  They will have to draw on savings until the profits are distributed.

They pay tax on their total earnings; no distinction about "draws".

Answer 2

Look at it from a Cash Flow point of view, not a profit point of view. He may have enough write offs to lower profit (Ex. Depreciation) and enough Cash Flow to take a draw and not effect much.

Answer 3

Depending on their basis and entity type, the owner may be taxed on the actual cash distributed instead of just the K-1 income reported.  You definitely need to get in touch with a good CPA to help get this taken care of (though I suspect that you are not the owner who took out more than the K-1 earnings.)