If you are a small business owner, you know how tempting it can be to use your personal funds when your business is struggling. However, to maintain a healthy business, it’s wise to keep your personal and business finances separate. In fact, commingling your business and personal finances can lead to serious financial and legal risks.
Why it Matters
Commingling business and personal finances could lead to legal issues and could compromise your liability protection. This could, in turn, put your personal assets at risk if your business is sued or audited.
- Commingling your expenses could trigger red flags with the IRS or lead to higher tax bills.
- Commingling funds can lead to missed payments, double payments, or other accounting mishaps.
- Commingling accounts can damage your credit report and your personal financial health.
How to Avoid Commingling Business and Personal Finances
When you commingle funds, you put yourself and the integrity of your business at risk. Here are our top tips for separating your business and personal accounts:
1. Establish a legal separate entity for your business.
The moment you begin accepting money as a business (and ideally before) you should establish a legal separate entity for your business (such as an LLC, corporation, or sole proprietorship). This structure offers credibility, potential tax benefits, and additional protection for your personal assets. It’s the first step toward building a solid foundation for your business’s growth and success.
2. Know what counts as commingling.
Commingling funds is a common—but risky—practice for small business owners and entrepreneurs. The trouble is, a lot of small business owners don’t even realize they are doing it. Here are some common examples of commingling to avoid:
- Using personal accounts for business expenses (and vice versa)
- Transferring money between accounts without documentation
- Paying personal bills or expenses with business funds
- Depositing personal income into business accounts (and vice versa)
- Using business checks for personal purposes
- Reimbursing yourself without documentation
- Sharing accounts
- Using business assets (like vehicles, equipment, or personal property) for personal use.
- Inadequate record keeping
3 Get a business credit card.
When struggling to keep a business afloat, you may be tempted to use your personal credit card for necessary business expenses, but that can lead to serious complications. At the very least, it could hurt your personal credit score. Instead, apply for a business credit card and use it exclusively to cover business-related expenses. The benefits are twofold: It will help streamline your records and help build your business credit score.
4. Open a business checking account.
One of the most effective ways to keep your business and personal finances separate is to open a dedicated business checking account. By funneling all your business income and expenses through a business account, you create a clear financial trail that simplifies accounting and tax preparation. This separation not only makes it easier to track your business’s financial health but also provides a professional image to clients and vendors. Many financial institutions (including Maps) offer business accounts with special features like higher transaction limits or Excess Share Insurance that make them well worth the investment.
5. Pay yourself regularly.
As a small business owner, it’s crucial to establish a regular salary or draw from your business profits (rather than dipping into the business account whenever you need money). If you pay yourself a consistent amount on a set schedule, you maintain a clear boundary between your personal and business finances. This practice also helps you manage your personal budget more effectively and ensures that you are treating your business with the professionalism it deserves.
6. Keep your receipts—and separate them.
Keeping meticulous records is essential for preventing commingling. Make it a habit to keep all your business-related receipts and store them separately from your personal receipts. This practice will save you time and headaches when it comes time to reconcile your accounts or prepare for tax season. Also, consider using a digital receipt management system to streamline the process and reduce the risk of losing important documents. Not only does this help with tax deductions, but it also protects you in the event of an audit.
7. Track tax deductible expenses.
It’s important to understand which expenses are tax-deductible and track them separately from your personal expenses. Not only can this protect you from liability issues, it can also result in significant tax savings. Common deductible expenses include office supplies, travel, business meals, and marketing costs. To maximize your deductions, maintain detailed records and ensure that every expense is properly categorized. By doing so, you’ll be better prepared when tax season arrives, and you’ll be less likely to accidentally claim a personal expense as a business one, which could lead to penalties.
8. Track and document shared expenses
Some expenses may be shared between your personal and business life, such as a home office, vehicle, or internet service. It’s crucial to document the extent to which these expenses are used for business purposes to avoid any confusion or accidental commingling. Keep detailed records of the percentage used for business versus personal purposes. This will help you claim the correct deductions and maintain clarity in your financial records. Consider consulting with a tax professional to ensure you are following best practices and maximizing your deductions without crossing any legal lines.
Separating your business and personal finances is not just a best practice; it’s a necessity for the long-term health and success of your business. By establishing clear boundaries, staying organized, and following the tips outlined above, you can protect both your personal and business assets, simplify your accounting processes, and ensure your business is on a solid financial footing. While it may require some extra effort upfront, the peace of mind and financial stability you’ll gain are well worth it.
Want more small business strategies?
- Check out our article on how to make the most of Small Business Saturday (coming soon).
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- Discover some small business tools banking that could help make your business a success.