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Simple English definitions for legal terms
capital account
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A quick definition of capital account:
A capital account is a record of how much money the owners of a company have put in and taken out. It is shown on the balance sheet and includes the money the owners put in when they started the company, any profits they made, and any money they took out. For example, if three people started a company and each put in $20,000, their capital accounts would start at $20,000 each. If the company made a profit of $30,000, each owner's account would go up by $10,000. But if one owner took out $5,000, their account would only be worth $35,000 while the other owners' accounts would still be worth $40,000 each.
A more thorough explanation:
A capital account is a record of the ownership rights of the owners of a company. It is used in accounting and is shown on the balance sheet. The capital account is made up of three things:
- Capital contributions made by the owners when the company was created or afterwards as required by the business. These contributions add to the capital account.
- Net income or net losses proportional to the owner's ownership rights at the end of each fiscal year. These are added or subtracted from the capital account.
- Any distributions of profit made in favor of, or authorized personal withdrawals made by, the owners. These are subtracted from the capital account.
For example, if three people create an LLC and each contributes $20,000, the capital account of each owner starts with a record of $20,000. If the business reports a net income of $30,000 at the end of the fiscal year, each owner's account would increase by $10,000 (assuming equal ownership shares), for a total of $40,000 each. However, if partner A withdrew $5,000, his capital account would be reduced to $35,000, while partners B and C would still have $40,000 each.
The example shows how the capital account works in practice. It demonstrates how the account is affected by capital contributions, net income or losses, and distributions of profit or personal withdrawals. By keeping track of these items, the capital account provides a clear picture of the ownership rights of the owners of a company.