The Biggest Business Finance No-No!
Mixing Business and Personal: A Big No, No, For Your Finances
Own a small business? Perhaps when you were just starting out you used your personal funds to get your business up and running. Then as you became a little more involved, you figured, “well I AM my business, so it’s no big deal to use my money for my business.”
Let me tell you…It IS a big deal to mix your personal and business finances, especially when tax time arrives.
However, a little work, in the beginning, can save you a lot of headaches later. Luckily, it’s not difficult to save yourself time, money and effort.
Read on for my simple 5 W’s, (why, who, when, where, and what) for keeping your business and personal money separated.
Why – Why should I bother to separate the money I use for my business from my personal funds?
1. For Ease of Tracking Your Business Finances
In the very beginning of your business you may have only a few bank transactions, here and there to identify in your account, but if you intend to make a profit and grow your business, you’re going to find it becomes harder to find the growing number of transactions and account for them. Soon you’ll be so busy you won’t notice whether you gained or lost profit in any given quarter and that makes reaching your business goals difficult. Don’t let your business finances get murky. Keep clean, separated financial business records and be able to see your growth!
2. To Keep the IRS Happy
Yay! Your business is growing. Now be prepared for Uncle Sam to take his cut. Keeping your business finances well documented and separate from any personal finances means less effort and time for you, your tax preparer, and the IRS. This makes everyone happy and makes you less likely to be audited. Plus, you will probably be able to identify and take advantage of the many tax deductions for small businesses, such as the home office tax deduction or the business vehicle tax deduction.
Who – Who should be worrying about the separation of business and personal finances?
Any and Every Business Owner - Sole Proprietorship, Limited Liability Companies (LLC’s), & Corporations should keep funds used for business separate from personal funds.
If you’re a sole proprietor of your small business, you are considered one with your business. Its gains and losses are your gains and losses. If the IRS comes for an audit of your taxes, you want to be ready with appropriate documentation that shows a clear distinction between business purchases and personal purchases. Please note that choosing to be a sole proprietorship means you are personally responsible for any debts or company actions of the business, possibly leaving your personal assets vulnerable.
LLC’s and corporations are required to keep business and personal finances separated due to being separate legal entities. Though in some cases your personal assets may be protected in case your business gets into legal or financial trouble, you will probably need to show separate documentation of your business affairs. It’s better to be prepared than to be caught unaware.
When – When should I be separating my business and personal finances? When does this information become crucial?
From The Beginning - As soon as you start your business you should separate your finances. It is easier to start with the books neat and tidy, than it is to clean them up later.
At the very start of your business, after you’ve registered with the government, have all licenses and permits required, and received an employer identification number (EIN) from the IRS, the next task on your agenda is to create a business bank account. You will need this information to open a business account.
Keeping your personal and business funds in separate bank accounts from the very beginning will allow to you easily and accurately record business transactions in your bookkeeping software (more on bookkeeping software below). You, your bookkeeper, and your tax preparer will avoid headaches at tax time if you continue smart separation.
Didn’t Separate From the Start? - Read on for 4 simple steps to fix it.
So you began your business and didn’t realize how important it was to separate your business money from your personal money? You’re not alone. Many small businesses do this in the beginning without realizing there is a better way to manage their business’s financials. Happily, this folly is easily fixed. It just takes a little more work than if you had done it from the beginning.
First, get a business checking account. It can be at the same bank as your personal account, but make sure it is classified as a business account. See the previous section on free business checking accounts.
Second, go through all of your bank statements and identify purchases you made for your business. Start with the most recent purchases and the major purchases; you’re more likely to remember these. A bright highlighter might help if you’re looking at a paper copy. It might save time to utilize the search button and highlighter on your computer while looking through your electronic bank statements. Then work your way from the most recent purchases backward to the beginning of your fiscal year, which, for most, is the calendar year. If this seems like a lot of work, you can hire a skilled bookkeeper who knows your industry well to do it.
Third, get accounting software and learn how to use it, or hire a professional bookkeeper to guide you or provide bookkeeping services. Record past business transactions into the accounting software. This is also known as historical cleanup and is a service provided by most bookkeepers.
Fourth, after you have cleaned up your business’s financial records, use your business account for business transactions only. Diligently record, or have your bookkeeper record, future transactions. This will avoid a headache at tax time and provide you with real time information on your business’s financial picture as well as help you track progress toward your financial goals.
Where – Where should I keep my business finances and relevant information?
Business Checking Account
As noted previously, you need a business bank account separate from your personal accounts. Here are some U.S. banks that provide free business checking accounts. You only use this account for your business’s financial needs. You will need to open the account with some funds, and many small business owners open with personal funds. Putting your personal funds into your business bank account for a starting balance initially is fine. Be sure to record it as owner’s contribution in your bookkeeping/accounting software.
Accounting Software - Here is an article comparing different accounting software options
You have many options to choose from when selecting accounting software to record your business transactions. Some popular options are QuickBooks by Intuit, which includes several different versions, including both desktop and cloud-based applications; Sage 50, previously PeachTree, Xero, whichi is only cloud-based, Freshbooks and many others. A professional bookkeeper will be able to tell you the benefits of each and help you select the right one for your business needs.
Document / Data Storage Manager
With a growing business comes a growing number of documents, receipts, and other important information that you will need to keep. Instead of having large, bulky file cabinets full of documents or, more likely, papers strewn all across your desk because you didn’t have time to file them away, you may consider investing in automated cloud-based data storage. These online data managers usually connect seamlessly with your accounting applications, so you don’t have to work very hard to extract, store, and access important information quickly. Some allow you to take a picture of your documents, such as receipts, then will automatically extract the relevant info and put it in your accounting software. A few of these are Hubdoc, Receiptbank and for those who want the latest in tech savvy software, Talk Accounting.
If you need simple document storage and sharing you might consider using Dropbox or Google drive.
What – What steps should I take to ensure that I am separating my business and personal finances?
To Recap Here Are 4 Easy Steps For Ensuring Appropriate Financial Separation
1. Get a business checking account that is completely separate from your personal bank accounts.
2. Hire a professional bookkeeper. This is optional, but a very smart move, especially if you want to grow your business and either hate dealing with the finances and find it stressful or don’t have a lot of time to devote to keeping good financial records. A bookkeeper can also guide you on choosing accounting software appropriate to your needs and budget.
3. Choose, learn about, and use your accounting software Cloud-based is a smart option, as technology is advancing and accounting software is keeping up, providing many benefits such as automation, anywhere access, and bank-level security.
4. Continue to keep your business transactions separate from your personal finances. Record, or hire a bookkeeper to record these transactions, to keep your books up-to-date. Come tax time, you will be very glad you did!
BONUS: HOW - How can I get this done? I would like more guidance!
Now that you know this crucial information, you can relieve yourself of financial chaos in your business and be better prepared for tax time. Let a professional bookkeeper help to ensure proper separation and categorization of your business finances to save you from a headache.
If you would like more help with this, just let me know. We can have a no-stress, quick meeting to discuss how I can help take some of the burden off of you.