HOW DO YOU RECORD OWNER CONTRIBUTIONS AND INVESTMENT JOURNAL ENTRIES?

Apart from different financial sources, the owner of the company also invests to either start-up or expand the operations at the stage of maturity. The owner’s contribution is what the owner invests to cover the business expenses either through personal funds or by transferring funds to a business account.

In the world of accounting, the owner’s contribution has various names i.e. owner investment, and contributed capital. It is also important to mention, that this contribution can also be in the form of an asset or a mix of both cash and asset in the company.

However, investing straight cash is the most common way. As it becomes easier to finance big capital projects. In the case of assets, the owner gives equipment or vehicles to the company.

Whether the owner directly injects cash into the business or transfers funds in both cases it will not be considered income for the business. Also, these contributions and investments by the owners are non-taxable.

The owner’s contribution mostly happens in the partnership or private companies which do not publically trade their shares. All the money invested directly will be recorded in a capital contribution or paid-in capital account.

 Here a question arises why do owners prefer to contribute instead of availing of tons of other options? There is a common agreement among the experts that the owner’s who contribute or invest personal funds see their businesses differently.

An owner starts working better and smarter. Besides, the more the contribution the better he/she can have control. The owner will be free to decide how, when, and where the money should be used.

This is one of the significant reasons the owners contribute themselves. On the other hand, there is another side of the story as well. Sometimes, contributing personal funds may lead to high debt levels and bankruptcy which is a big NO!

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Also, a business is like a black hole, personal funds are never enough to cope with the expenses or expansion costs of a business.

The owner’s contribution account has a credit balance and is a temporary credit account which means it needs to be closed at the end of each accounting period. In simpler words, it is the owner giving money to the company instead of the company generating money for the owner.

The greater owner contributes to the company the more his/her equity increases. This works similar to the owner’s drawing or withdrawal.

Each time the owner withdraws the money it decreases the balance of the capital account and reduces the owner’s equity.

The owner’s contribution or the owner’s investment is recorded on the balance sheet. It can be under the owner’s equity section or a split between the common stock account and an additional paid-in capital account.

Let’s try to clarify this concept with the help of an example. Assume a bakery owner sells different sweets and baked items and now plans to expand its product line by adding tea, coffee, and juice.

The owner contributes $50,000 to achieve this purpose. These $50,000 will be considered the owner’s contribution or investment as they are aimed to expand the existing operations of the business.

How To Record The Owner’s Contribution?

To record the owner’s investment in the books of accounts, we have to debit cash or a specific asset account that the owner has contributed. But why? Because as per the accounting standards, an increase in the asset is always a debit.

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Besides, in a double-entry system, for every debit entry, there should also be a credit entry so in this case, we will credit the paid-in capital account.

Be noted paid-in capital is an equity account that represents whatever an entity receives from its owners. It works as a defense mechanism for businesses against any losses. The entry will look as:

DateParticularsDrCr
XX/XX/XXXCashShould be debited 
   Paid-in capital Should be credited
DateParticularsDrCr
XX/XX/XXXAssetShould be debited 
     Paid-in capital Should be credited

Some people often confuse paid-in capital with the additional paid-in capital. However, both these concepts are totally different which must be understood in order to pass accurate journal entries.

In the above journal entry, in the case of a corporation, the paid-in capital account can also be a common stock account or a common stock account with additional paid-in capital.

However, if the business is a sole proprietor it can be ordinarily paid in the capital account as above on the balance sheet under the owner’s equity section.

Additional paid-in capital is the amount paid to purchase the share of the company over common share par value through an initial public offering (IPO) which does not happen in the case of paid-in capital.

Also, the change in share price after the initial public offering should not influence the additional paid-in capital of the entity.

EXAMPLE # 1: Mr. Richard Bates is the owner of company XYZ limited. He invested $30,000 on 15th July 2020 to expand its operations.

Referring to the above entries, the cash account will be debited and the paid-in capital account will be credited with the same amount in the books of accounts of XYZ limited.

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DateParticularsDrCr
15/07/2020Cash$30,000 
    Paid-in capital $30,000
  • Impact on the financial statements

When an owner invests it will have a significant impact on the balance sheet. Cash will affect the assets section while paid-in capital will be recorded in the owner’s equity section on the balance e sheet.

EXAMPLE # 2: Let’s have an example of contribution in the form of an asset this time. Assume Miss Lylla Jones has contributed a warehouse to the company worth $250,000 on 1st January 2022 which will be used to keep the inventory.

In this case, instead of a cash fixed asset account i.e. warehouse will be debited and a paid-in capital amount of $250,000 will be credited against it.

DateParticularsDrCr
01/01/2022Fixed Asset – Warehouse$250,0000 
       Paid-in capital $250,0000
  • Impact on the financial statements

Fixed assets are quite different from cash. Hence, if an owner contributes in the form of assets then the fixed asset is most likely to be recorded on fair value (market value).

Also, its depreciation will be calculated. So that the books of accounts can present the true picture. While paid-in capital will be recorded in the owner’s equity section on the balance e sheet.

EXAMPLE # 3: What if the owner contributes a car? In such scenarios, the value will be recorded on a fair value let’s assume which is $40,000.

The bookkeeper will make a journal entry by debiting the fixed asset- vehicle and credit paid-in capital account as shown below. Also, once the vehicle is recorded, it is important to depreciate it as per the entity’s policy.

DateParticularsDrCr
01/01/2022Fixed Asst – Vehicle$40,0000 
    Paid-in capital $40,0000

This article aimed to discuss the journal entries to record owner contribution or owner’s investment with logical reasoning referring to the accounting standards. It is pretty simple to pass entries for a sole proprietor’s business.

However, transactions become complex with the incorporation of additional paid-in capital in the case of corporations.