Starting a business can be an overwhelming but rewarding task. There’s so much to do when starting an LLC or S Corp that sometimes you can run into pitfalls you didn’t expect. Handling personal and business finances is one of them.
Upon starting a business, you need to ensure that you separate your business and personal finances. While it may be tempting to deposit everything into your existing personal accounts and make business purchases from there, you’ll be setting yourself up for some problems down the road.
Let’s go over how and why it’s important to set up your business finances correctly from the get-go.
Why You Should Separate Your Business and Personal Finances
If you don’t separate your personal finances and your business finances, you’ll have a lot of work come tax time, especially if the IRS has questions about your filing.
When it comes to taxes, you need detailed documentation of your business expenses, income and deductions. It is imperative that you accurately report numbers on your tax forms. Sifting through accounts that mingle both your personal and company transactions will create a headache for you and your accountant.
If you were to get audited, you’re going to need to show where every penny of your money came and went in that calendar year. If you’ve taken any deductions, you need documentation to support it. If you can’t provide proper records and documentation for an audit, you may lose tax deductions or have to pay a penalty.
Ease of Bookkeeping
Should you forego separating your finances, it can leave you scratching your head if an issue arises, when filing taxes, when determining deductions or if you need to know specific information about your company, such as monthly income or expenses. If you’re using only one bank account, you will have to go line by line through your bank statement to figure out what’s a business expense and what’s a personal expense.
Were the deposits you made money going into your business or direct to you personally? Were the checks you wrote going to vendors or to pay personal bills? Trying to find the purchase price of a piece of business equipment purchased a year ago? Good luck.
Establishing Business Credit
Separating your personal and business matters will assist you in creating a business credit profile for your LLC or S Corp. And it will protect your personal credit score. Opening credit cards with your personal information can affect your ability to rent, get insurance and get a personal loan if you carry a large balance or default on any payments. Banks and vendors may be unwilling to open an account for your business if your finances are mixed together and they are unable to clearly see your business income and, ultimately, your risk level to them.
Clearer Picture of Your Business Health
Without clear separation, you won’t be able to easily assess how much money you have in your account dedicated to business expenses or how much your business is earning. Pulling money from what would be a personal account to pay for business expenses is not advised. Likewise, you don’t want to take what was money from your business to be used to pay personal expenses.
When you separate the two accounts, you have a clear picture of what you have in all accounts to avoid any confusion and issues.
How to Keep Business and Personal Finances Separate
A benefit of creating an LLC or S Corp is the fact that they each provide you with personal asset protection, which is an invaluable feather in your hat should anything negative happen with your business, such as a lawsuit. But if you want your personal assets truly protected, they need to be kept separate from your business. Here’s how to do it.
Set Up Proper Bank Accounts
After you’ve legally filed your business entity, set up a business savings and checking account at your bank. This will allow you to easily pay bills, collect payments and purchase needed business items. It will also make it easier to report expenses and take deductions come tax time.
If you’ll be paying yourself a salary from an LLC or S Corp, you can easily transfer money from your business account to your personal account online. Just ensure you properly document the transfer as a member or owner withdrawal when you decide to pay yourself.
While having a business checking account may be enough, having a savings account can allow you to make at least a little interest on your business funds. Keep enough money in your business checking account to handle all expenses, and transfer the rest into the business savings.
Get a Business Credit Card
Do not use your personal credit card for business expenses. This will not aid in separating personal vs. business finances and can potentially hurt your personal credit reputation. A business credit card will allow your business to build its own credit score. This can be helpful if your company ever needs to apply for a loan. A strong business credit score can give you more borrowing power and lower interest rates.
Shop around for the best business credit card — many have points and rewards programs you can take advantage of. Use your business credit card for only business purchases. Just as with a business checking account, a business credit card will provide a great way to track expenses and help with taxes.
Utilize Accounting Programs
Utilizing business account software, such as QuickBooks or FreshBooks, can further aid in keeping your money separate. These platforms provide a way to track your business income and expenses, send checks to vendors, create statements, complete payroll, store receipts and more. These features can work seamlessly to provide you organization and easy classification of your business money, not to mention major help come tax time.
Consider Working with a CPA
Many consider a CPA only during tax time but they can be extremely helpful. A qualified CPA or accountant can give you tips and suggestions regarding how you should set everything up, what you should look for in various bank accounts and business credit cards and how to go about recording all of your transactions throughout the year to make tax season easier.
Some accountants and CPAs will even handle all of your accounting/bookkeeping for you if you wish. This comes as an added business expense, but if it’s something you didn’t want to worry about, you can hire a professional to handle all of it for you and take it off of your plate so you can focus more on running and growing your business rather than needing to take time away from your day to focus on admin work.
If you’re unsure how to set up your LLC or S Corp, Incfile is here to help. Once your business is up and running, we can also help manage your business and ensure it stays in good standing. When tax time rolls around, our tax professionals at Incfile can help you file your business taxes, too.