Many business owners begin on a small scale in response to these unexpected questions: “Have you thought about selling those?” or “Can you do that for me?”
They realize they might be able to make extra cash on the side—or even turn their hobby into a career.
When a business venture starts this way, the owner usually doesn’t know if it will gain traction or expand. As a result, many business operations start with business finances that are simply an extension of personal finances, using personal accounts. As the business grows, the owner may not make any adjustments, thinking, “It’s all my money anyway, so why does it matter?”
Here’s why operating a business through personal financial accounts presents significant problems on many fronts.
The foundation of financial health for every business owner is separating the finances of the business from the owner’s personal finances. This is true for businesses of all sizes, even the smallest ones with only one owner and no employees.
4 reasons to separate business and personal finances
- To see how your business is performing. The only way to know whether your business is profitable—and how much cash it’s generating—is to have an accurate picture of business revenues and expenses. These enable financial reporting to get the full picture of your business’ financial standing. If you commingle business and personal income and expenses, you’ll never know your true profitability.
- To file taxes accurately. Calculating business taxes, regardless of the type of filing, requires accurate financial records of business revenues and expenses. If you’re audited, you need to show that transactions used to calculate business taxes were for business purposes. Bookkeepers can help you get your books clean for tax time.
- To protect your personal assets. Some business legal entity types offer the owner a way to separate the legal and financial liabilities of the business in a way that offers protection for their personal assets. But if the owner commingles finances between their personal accounts and the business entity, it could jeopardize these protections. Check with your accountant for help determining what kind of business entity you should pursue.
- To get more access to business financing. If a business has more than one owner or needs to take out a business loan, it’s essential to have accurate business accounting and financial documentation. Most lenders require business financial statements for larger loans. External business partners need to see standardized financial reports to understand the financial health of the business.
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How to separate business and personal finances: 6 simple steps
It’s straightforward and inexpensive to separate business finances. Separation is the key to establishing good financial hygiene. Here’s how to separate business and personal expenses and finances.
- File paperwork to establish a business. Creating a business that exists separate from yourself can protect your personal money and assets. Choose a business structure—LLCs, partnerships, and S-corps are the most common for small businesses—and file the paperwork with your state. You also need to get an Employer Identification Number (EIN) from the IRS for filing taxes. Once your business exists as an entity separate from yourself, be sure to follow the below best practices to avoid “piercing the corporate veil.”
- Separate personal and business bank accounts. The business should have its own checking account and debit card for making business purchases. You need to have your EIN to set up a business bank account. It’s often convenient to keep business accounts at the same bank as your personal checking. This makes transfers and distributions easy, and can sometimes mean extra benefits or rewards. This also allows the bank to see your personal finances in borrowing situations that require a personal guarantee from the owner.
- Create separate profiles to receive payments. Social payment platforms such as Venmo, Paypal, and Zelle are popular ways to pay friends and family, but business payments should run through a separate account. Often, digital service platforms have business-specific profiles that keep you compliant with their terms of service too. Set up business-specific profiles to accept digital payments or for merchant services, if you accept credit card payments directly. Accounting software like QuickBooks Online can link all your digital services platforms together to track revenue in one place.
- Run all business financial transactions through the business accounts. Now that your business banking account and avenues to receive payment are established, keep those financial transactions separate from your personal income streams and spending. All business expenses should be paid or reimbursed out of business accounts. All revenue from clients should flow directly into business accounts. Work with your accountant to determine the best way to pay yourself through your business.
- With growth, establish other accounts under your business. As the business grows, it might need other services, such as credit cards, loans, payroll, insurance, and money market accounts. Apply for or run these services using your business name and EIN to avoid piercing the corporate veil.
- Keep track of all business revenues and expenses. Good tracking and bookkeeping practices are essential for many reasons, including accurate business financial statements and tax calculations. Experts at Eric Buchholz Bookkeeping can give you support and answer questions, so you can feel confident in your books. There are also low-cost courses you can take to build your bookkeeping skills.
Separating business and personal finances for accuracy and protection
If your business already has separate financial accounts, you’re on the right track. Make sure you use the accounts as intended and run business transactions through business accounts. If you’re still using personal accounts for some or all business-related transactions, talk with a banker who can help you establish the right set of business accounts for your situation. Separating your business expenses and personal expenses is an important step in protecting your personal finances.
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Take routine bookkeeping off your never-ending to-do list with the help of a certified professional. At Eric Buchholz Bookkeeping, we can help ensure that your business’s books close every month, and you’re primed for tax season. Our expert certified QuickBooks ProAdvisors have over 25 years of experience working with small business bookkeeping across various industries.
Whether you’re trying to learn how to separate your business and personal finances, or how to start practicing excellent financial hygiene moving forward, Eric Buchholz Bookkeeping can guide you down the right path. Schedule your FREE phone consultation today!… Simply CLICK HERE.
