When running your business, learning how to keep your business and personal finances separate should be the first thing you focus on. Learning how to separate business and personal finances is crucial for simplifying your tax preparation, building business credit, and assessing your business’s performance accurately and effectively. Getting ahead in this regard will save your business time and money down the line.
If you’re a new business owner or a current owner realizing that you should’ve been maintaining separate records, you should follow the detailed guide I made below to make sure you know what it takes to actually maintain a clear boundary between your business and personal finances.
Step 1: Obtain an Employer Identification Number (EIN)
I would recommend first getting yourself an EIN from the IRS. An EIN is a unique nine-digit identifier that the government uses to identify businesses for tax and federal paperwork purposes. Having one helps establish your business as a wholly separate legal entity. Obtaining an EIN is a free and relatively painless process and saves you so much time on the backend when it comes to making sure your business is legally separate for important future processes such as tax filings and business banking.
Why you need an EIN
An EIN distinguishes your business from yourself, ultimately establishing a separate legal entity for your business, which will be crucial when dealing with common business processes:
- Legal Separation: An EIN helps organize your business as legally separate from you. This helps keep your personal assets from commingling with your business liabilities.
- Tax Purposes: With an EIN handy, your business can file taxes independently from your personal tax returns come tax time.
- Business Banking: Banks require an EIN nowadays to let you open a business bank account. Having one allows you to maintain a separate bank account for your business.
- Employee Management: An EIN is needed for reporting employee taxes and handling payroll. Having an EIN also helps establish your business as a legitimate employer.
- Building Business Credit: An EIN is necessary for establishing credit in your business’s name, separate from your personal credit file.
Step 2: Register your business
The next step I’d recommend is to register your business formally. This can take the form of a Sole proprietorship, LLC, S corporation (S-corp), or C corporation (C-corp). Registering your business is an important step on the path to protecting your personal assets in case of any legal action taken against your business. Keep in mind that this protection can go away if you commingle your personal and business funds. That is why it’s wise to consider separating your personal and business funds in order to avoid these issues.
Step 3: Open your business bank account
After registering your business, I recommend that you then open a business bank account for your business. A business bank account ensures that you keep clear records of business income and expenses, and keeps things running smoothly during tax time. Having a business checking account for your business also keeps your accounting and financial management in check.
When you open a business bank account, ensure that all the income your business collects is deposited into this account and that all business expenses are paid out of that same account. Having this clear separation makes it easier to ultimately document and manage your business’s finances. For help managing your business bank accounts, check out the best bank reconciliation software.
Step 4: Get a DUNS number
Next, I’d recommend that you get yourself a DUNS number from Dun & Bradstreet so you can make sure you formally establish your business’s credit profile.
Importance of having a DUNS number
Creditors use a DUNS number to determine your business’s creditworthiness. It gives an insight into your business’s health and overall credit profile. Your business’s credit profile is crucial for determining if you’ll be able to secure future loans and lines of credit. Establishing a strong history of business credit is key towards ensuring your business continues to grow and achieve financial stability.
Step 5: Get a credit card under your business’s name
Business credit cards help build a credit history for your business, distinct from your personal credit. By using business credit cards for business expenses, you not only build up your business credit but also further keep your personal and business transactions separate.
This separation is important for accurate financial reporting and for establishing a solid credit history for your business, which can help you secure better financing terms and diversify your lending options in the future.
Step 6: Establish utility accounts under your business’s name
Another way to go about helping out your business credit is by establishing utility accounts under your business’s name. Utility accounts include your business subscriptions and other related business-as-usual functions such as phone bills, internet service, and software licenses.
Mark these services for payment under your business name, and make sure the bank account you set up for your business is keeping a record of these expenses for accounting software purposes.
Step 7: Track your business expenses and maintain receipts
One thing I would like to highlight is the importance of expense tracking software when separating your business and personal finances. I think it is critical to your business to have an expense tracking software or system in place that helps you track expenses and billings in order to get an accurate picture of the cash flow actually involved in your business.
Benefits of expense tracking
Expense tracking ensures your business maintains clear, simplified records for tax purposes. There’s nothing worse than scrambling to hunt down every last expense and bill and coming up dry during tax time. This can impact and even delay your tax preparation and end up costing you financially. Don’t put yourself in this position.
The best way to avoid being in this position is by ensuring your employees use and are also trained in using business expense tracking software. Keeping detailed receipts also helps you maintain future compliance and audit readiness.
Step 8: Put yourself on payroll
Paying yourself a salary from your business account is a key step in maintaining a clear separation between your personal income and business revenue. This practice simplifies your accounting and ensures that your personal finances are kept separate.
Drawing your payroll salary from a business account can help create a predictable income stream for yourself and helps you avoid the pitfalls that come with commingling your business and personal funds. For more information related to setting up a payroll account, read on.
Step 9: Monitor your business’s use of personal items
Lastly, I recommend that you keep a detailed record of the business uses of your personal assets for accurate tax deduction possibilities. This includes keeping records of assets such as any home offices or vehicles used in the management and upkeep of your business.
Documenting business uses
Making sure you keep accurate documentation of the assets used helps during tax time. Keep detailed logs of home office expenses and use mileage tracking apps for business-related vehicle use. These records can help lower your business tax bill come tax season and are a great way to make sure you have documentation on hand for compliance with any tax law changes or future business audits.
Why it’s important to separate business and personal finances
Keeping your business and personal finances separate is crucial for financial clarity, accurate tax filing, and legal protection. This helps you maintain a clear picture of your business’s actual financial health.
Clear financial boundaries also simplify accounting, prevent commingling of your funds, and reduce the risk of legal issues related to inaccurate financial reporting. All of this comes together to result in fewer headaches for you as you continue to grow and build your business.
Recommended business bank accounts for separating business and personal finances
Choosing the right business bank account is essential for keeping your business finances separate. Here are some options I would go with:
Frequently asked questions (FAQs)
Is it important to separate business and personal finances?
Yes, it’s very important to separate business and personal finances. Certain financial and tax protections are afforded to your personal finances if your business finances are maintained in a legally separate account. However, these protections can be lost if you don’t properly separate your business and personal finances.
Can I use QuickBooks for business and personal finances?
Yes, I would actually recommend using QuickBooks for both your business and personal finances. Just make sure you don’t mix the two accounts. QuickBooks can be helpful for budgeting and bill management and also makes it easy for you to maintain separate files since QuickBooks can do the documentation tracking part for you.
