As a business owner, merging your personal and business finances is tempting. After all, using one bank account, one credit card, and one budget is convenient for managing all your expenses, especially when you’re just starting out and looking for the simplest route to get going.
However, combining your finances can severely affect your business, personal finances, and tax obligations. I’ll explain five reasons why keeping your business and personal finances separate is essential and how to do it effectively.
Legal protection is one of the main reasons to keep your business and personal finances separate.
There are multiple ways to legally establish your business entity - Sole Proprietorship, LLC, Partnership, Corporation etc. And likely, there is a reason you chose the structure that you did.
When you combine your finances, you create a legal gray area (often called piercing the corporate veil) that can make distinguishing between personal and business assets difficult. This can be particularly problematic if you face legal action, such as a lawsuit or bankruptcy.
Comingling finances essentially erases any lines your legal entity established in the first place and puts your personal assets at risk if you can't prove that they're separate from your business assets.
"If a court pierces a company's corporate veil, the owners, shareholders, or members of a corporation or LLC can be held personally liable for corporate debts." - Nolo.com
Another reason to keep your business and personal finances separate is to maintain accurate accounting records.
Using the same bank account, credit card, or budget for personal and business expenses can take time to accurately track your spending and revenue. This can lead to tedious hours of sorting through transactions and leaves plenty of room for errors in the data compilation.
Not only is this a headache, but it’s also an inefficient use of your resources.
Speaking of taxes, keeping your business and personal finances separate is essential for tax compliance.
When you file your taxes, you need to report your business income and expenses separately from your personal income and expenses.
If you don't have accurate records of your business expenses, you may miss out on valuable tax deductions or face penalties for underreporting your income.
Part of growing your business is ensuring your entity will stand on its own two feet - separate from you.
Setting up credit in the business name ensures the business can function without relying on your personal guarantee for credit lines and capital.
Establishing a TIN and a DUNS number gives your business the ability to own and maintain its own business credit score.
Finally, keeping your business and personal finances separate can help you maintain a professional image.
Using a personal credit card or bank account for business expenses can make your business appear less professional and organized.
By keeping your finances separate, you can demonstrate that you take your business seriously and are committed to maintaining accurate records and complying with legal and tax requirements.
So how do you keep your business and personal finances separate you ask? Here are some tips to get started:
Apply for a Tax Identification Number for your business
Open a separate bank account for your business
Use an independent credit card for business expenses
Keep accurate records of your business income and expenses
Maintain a distinct budget for your business
Hire a professional bookkeeper or accountant to help you manage your finances
Transfer money from your business account to your individual account to pay for personal expenses
By following these tips, you can keep your business and personal finances separate and avoid the legal, financial, and tax consequences of combining them.
When you’re ready to get started with your business bookkeeping, I’d love to help start you off on the right track!
Honored to support your business journey,