make adjustments for goods taken by the owner for own use

5.1 Sole Traders – Adjustments for Goods Taken by the Owner for Personal Use

Learning Objectives

• Explain why the owner’s withdrawal of stock requires an adjustment in the accounts.
• Identify the correct journal entry, post it to the appropriate ledgers and confirm that the trial balance still balances.
• Show how the adjustment is reflected in the Income Statement and the Statement of Financial Position.
• Classify the transaction correctly as a capital (drawings) transaction and relate it to the relevant accounting principles.
• Analyse the effect of the adjustment on key financial ratios.

1. Why an Adjustment Is Required – Linking to the Purpose of Accounting

The primary purpose of accounting (Cambridge syllabus 1.1) is to provide a true‑and‑fair view of a business’s profit and its resources. When the owner removes stock for personal use:

• The goods are no longer an asset of the trading entity.
• Leaving the stock on the balance sheet would overstate assets and, consequently, owner’s equity.
• Adjusting the accounts restores the correct measurement of profit (Income Statement) and resources (Balance Sheet).

2. Accounting Equation & the Place of Drawings

When stock is taken by the owner:

• Assets (Stock) decrease.
• Owner’s Equity decreases via the Drawings (contra‑equity) account.

The equation stays in balance, satisfying the Business‑Entity Principle (syllabus 2.1).

3. Accounting Principles Involved

4. Source Document & Books of Prime Entry

Sample Withdrawal Slip (the usual source document)

The slip is first recorded in the General Journal (book of prime entry) as an adjusting entry.

5. Posting Flow – From Journal to Trial Balance

1. Journal – record the adjusting entry.
2. Ledger – post the amounts to the Drawings ledger and the Stock ledger.
3. Trial Balance – verify that total debits equal total credits.

6. Adjusting Journal Entry

7. Posting to the Ledgers

8. Trial Balance Check‑Point

9. Common Errors When Recording the Withdrawal

• Omission: Forgetting to make the journal entry – assets and equity are overstated.
• Commission: Recording the withdrawal as a business expense (e.g., “Purchases”). This reduces profit incorrectly.
• Using selling price instead of cost price: The adjustment must be at cost, otherwise profit is misstated.
• Missing the credit to Stock: Trial balance will not balance and closing stock will be too high.

10. Worked Example (Year ended 31 July 2025)

Given

• Opening stock: £3 200
• Purchases: £7 500
• Closing stock before withdrawal: £2 800
• Owner removed 20 units @ £15 each

Step 1 – Value of goods taken

20 units × £15 = £300

Step 2 – Adjusting journal entry

Step 3 – Revised closing stock

£2 800 – £300 = £2 500

11. Effect on the Final Accounts

11.1 Complete Income Statement (Profit & Loss Account) – Extract

Note: The withdrawal does **not** appear as an expense; profit is unchanged by the drawing.

11.2 Complete Statement of Financial Position – Extract

12. Capital vs. Revenue – Quick Comparison

13. Impact on Ratios – Re‑calculation Exercise

Assume current liabilities of £1 000.

Interpretation (AO2/AO3): a lower closing stock reduces the Current Ratio (working‑capital position) but improves the Inventory Turnover ratio, indicating more efficient use of inventory.

14. Links to Other Syllabus Areas

• Capital vs. Revenue – reinforces the distinction required for AO1.
• Depreciation & Accruals – the withdrawal of stock does not affect fixed‑asset depreciation or accrued expenses.
• Ratio Analysis (AO2/AO3) – students must recalculate and interpret ratios after the adjustment.
• Verification of Records (AO3) – trial‑balance checkpoint and error‑identification practice.

15. Common Mistakes to Avoid

• Recording the withdrawal as a business expense (e.g., “Purchases”).
• Omitting the credit to Stock – leads to an unbalanced trial balance.
• Using the selling price rather than the cost price for the adjustment.
• Failing to show Drawings as a deduction from capital in the Statement of Financial Position.

16. Quick Revision Checklist

1. Determine the cost of the goods taken (quantity × cost per unit).
2. Record the adjusting journal entry: Debit Drawings, Credit Stock.
3. Post the amounts to the Drawings ledger and the Stock ledger.
4. Check that total debits = total credits in the trial balance.
5. Adjust the Closing Stock figure in the Income Statement.
6. Show the total Drawings as a deduction from capital in the Statement of Financial Position.
7. Remember the entry is a **capital** transaction – it does not affect profit.
8. Re‑calculate any relevant ratios and be ready to interpret the change.