Why You Should Separate Your Personal & Business Finances
As you navigate business financing, it may be tempting to use your personal finances to help out when your business needs a boost, but that is not always the best solution in the long run. Separating your personal and business finances can help ensure you treat your business like the independent entity it is, while safeguarding your personal finances.
Why is separating your finances so important?
Though there are many benefits to keeping your personal and business finances separate, two of the main reasons you should draw a line in the sands of finance are for tax and personal protection purposes.
It is much easier to keep track of business expenses for tax purposes if you use a separate business account. Once you have your business checking account, keeping track of things like expenses is essential to properly filing taxes. Remember, from office expenditures to operational and inventory purchases, every receipt counts. When it comes time to file your taxes (or hand everything over to your accountant), a thorough collection of business-only information is going to save you a lot of time and a significant amount of stress.
Separating your personal and business finances is important for tax reasons, but perhaps equally, if not more, important is separating your personal finances for the sake of your personal security. Using your personal finances to back any entrepreneurial venture can be risky business and not just because of the initial financial gamble.
Entrepreneurs often wind up signing personal guarantees for leases, loans, and lines of credit. Sometimes that’s necessary—especially when your business is young and hasn’t established a strong business credit rating. But your goal should eventually be to avoid personal guarantees as much as possible. The way to do that is by building strong business credit to give lenders confidence that your business can and will repay its debts.
Tips for Separating Your Personal & Business Finances
Now that we’ve distinguished two of the more significant reasons to keep your business and personal finances separate, let’s take a look at a few of the steps you can take proactively to put this division in place.
- Consider incorporating your business. Incorporating your venture as a C Corp, S Corp, or limited liability corporation (LLC) can provide tax benefits, but more importantly help protect your personal assets, provided you set it up properly and maintain it correctly. By maintaining a corporate structure, you can protect your personal assets from business debts, losses, and lawsuits. (Keep in mind, though, that if you sign a personal guarantee, creditors can try to collect from your personal assets if you default on a debt.) If you’re serious about creating a business, incorporating is a smart first step.
- Open a business checking account. Once you’ve made the decision to start your own business, one of the very first things you should do is head to the bank and open a business checking account. There are multiple reasons why this is a healthy step for a business. A business checking account will streamline cash flow and make record keeping much more efficient. Additionally, a business account lends itself to easy finance tracking. A separate business account can help signify to the IRS that your venture is a business and not just a side project or hobby, making more of your expenses tax deductible.
- Apply for a business credit card. Business credit is a big deal, and one quick and easy way to start to build it is by obtaining a business credit card. In addition to fantastic perks like building a credit history for your company, a business credit card will help you eliminate the need for personal credit cards for businesses purposes. Opening one of these cards will also help streamline business finances, and some cards reduce the risk of having your business transactions impact your personal credit. In addition, you may be able to deduct card costs (an annual fee and interest, for example), if you use it exclusively for business purchases. That may not be the case if you mix personal and business expenses on the same card.
- Set a budget. Being armed with a business credit card and a business bank account is a terrific start, but setting a budget is another step that can help you keep things in check. It may not seem like setting a budget for your business does a whole lot in terms of separating personal and business finances, but preparing (and sticking to) a budget for your business can prevent you from delving into personal finances due to poor planning. Of course, emergency situations can happen, and even the best-planned budgets may not always work out as intended. However, creating a clear-cut budget reduces your risk of running into avoidable costs that could force you to turn to your personal finances for rescue.
It’s not unusual for a business owner to encounter a situation that may require him or her to pull in personal finances to fund their business dreams. While that’s not always avoidable, the tips and strategies above can help you separate your personal and business finances, safeguarding you from the potentially devastating outcome of mixing your business and personal funds.
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