When the Proprietor withdraws money from the business for personal use, it is treated as a temporary loan to the Proprietor by the business. This loan may be treated on par with the loan to an outsider. So business charges interest on such drawings: It is a gain to the business and loss to the proprietor.
The adjustment entry is:
The double effect of interest on Drawings is:
1. It is credited to the Profit & Loss Account.
2. It is added to the Drawings and then deducted from Capital, in Balance Sheet (liability side).
Illustration 1:
Mr. A has Rs. 30,000 as Capital on 1st January 2004 and his drawing during 2004 comes to Rs. 2,500. Charge interest on Capital at 10% and interest on Drawing at Rs. 100. Make necessary entries.
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