When starting your own business, whether it’s a side hustle or you’re diving into a full-time venture, there are endless reasons why your finances and assets should be in proper order. When your business finances are unorganized or handled incorrectly, you could be faced with dealing with the financial mess of organizing details when you really need them, such as for a business loan or to impress a potential investor, or you could face hidden legal issues if you do not properly separate your business and personal assets and checking accounts. Learn more about the business banking mistakes entrepreneurs commonly make when starting out:
1. Operating your business through a personal account
A common mistake many entrepreneurs make when starting out (especially when starting small) is mixing business funds with personal funds inside a personal bank account. Because there are many elements to starting a business, this aspect of having separate accounts is often overlooked – also because many entrepreneurs use personal funds to get their business off the ground.
Owning a business banking account is more than simply tracking your business revenues and expenses in a spreadsheet. For example, say you deposit business funds into your personal checking account. This seems logical because your business income is your source of income, right? Not so fast. Mixing business funds with personal monies in a singular account can get messy quickly and it can also leave you open to legal liability.
Depending on the type of entity you’ve set up for your business, hopefully, you incorporated as a Limited Liability Company or a regular company, you would enjoy liability protection for your personal assets in most situations, such as if someone sues your business. Typically, if a Corporation is set up, the business is considered a separate entity from the business owner, and it is the Corporation that gets sued if there is a problem at the business, more often than not. However, if the financial aspect of your business is operated within personal accounts, during a case, the other side can try to pierce the corporate veil and go after your personal monies that are in the account, along with any monies traceable to the business.
Not only should you keep your business and personal checking accounts separate, but you should also look at keeping separate credit cards, lines of credit, and any other loans. While you may need to personally guarantee any business loans or credit cards, separate accounts for these types of activities makes it a lot easier when it comes time to create financial statements and to analyze how well your business is doing.
2. Waiting until tax time to separate your personal expenses from business expenses
Entrepreneurs are often bogged down with many tasks when starting a business that it can be easy to simply decide to deal with the hassle of separating or organizing finances at tax time. While this may seem ideal during busy times, you’ll likely face more stress and frustration having to deal with a financial mess at tax time – an already- daunting time for many business owners. By separating expenses and transactions along the way, you’ll not only save yourself time at the beginning of the year, you’ll also save your sanity. Also, since you are a business and you are deriving some income from the business, tax time is not just once a year, but you also have to make those dreaded quarterly tax payments.
Additionally, if you file business income on your personal tax return, you could be missing out on important business deductions. As a business owner, there are several items that can be written off as business expenses when you file your taxes. While it’s sometimes OK to purchase these items with personal funds, the expenses are easier to track if they’re paid for using a business account. Waiting until it’s time to file taxes to sort business and personal financials can increase the risk of misreporting income and expenses, which can lead to something no individual ever wants to deal with – a dreaded tax audit.
3. Not properly organizing or tracking your financial transactions
An important aspect of a business that goes hand-in-hand with best banking practices includes accurately recording and organizing financial transactions going into and out of your accounts. Without keeping an eye on transactions, you could be making major financial mistakes such as improperly analyzing your cash flow. By not watching your cash flow, you could end up with large gaps between outgoing expenses and incoming funds, which can adversely impact business operations, and cause you lots of unnecessary stress. Business owners should have important documentation on hand, such as income statements, balance sheets, and cash flow statements, so they can easily analyze how the business is doing.
Keeping track of financial statements and transactions by properly recording and storing them for when you need to access them can come in handy if you’re faced with a tough situation, such as an IRS audit or during ongoing litigation. Maintaining separate personal and business accounts also cuts down on any stress should you face an IRS audit. Being able to produce records that show nothing but transactions, whether revenue or expenses, that are related to just the business, avoid any explaining that you may need to do about personal expenses or a vacation that you took.
In addition to maintaining a well-organized process for business revenue expense recordkeeping, and pursuing the right business banking methods by using a separate business banking account instills credibility in your business. Think about this: would a vendor or client have more confidence in your business (and you as a business owner) if you handed over a personal check or a business account check or a business credit card?
Because entrepreneurs face unique challenges when it comes to their finances, it’s a good idea to establish a relationship with your business banker as early on in the process of establishing your business. A good business banker cannot only provide assistance with the typical banking products one needs for their business, they can also provide insight, guidance, and resources to help you find success in your business.
Have questions about the legal implications of improper business banking practices or how to choose the right business structure or entity? Feel free to contact my office today.