Keeping accurate records of income and expenses is a challenge for a lot of small business owners.
More often than not, it’s because their business and personal finances are tied up together.
If this sounds like you, you’re in the right place. We’ll show you how to untangle the finance knot that’s keeping you up at night.
Why should you separate your business and personal finances?
For starters, this separation not only makes it simple for you to understand the health of your business (like how much money you’re making and where you can cut expenses) but it makes your life easier in the long run.
Let’s look at some of the biggest reasons.
Protect your business from legal implications
As a small business owner, you need to be able to justify your deductible expenses like supplies and travel. But if your income is merged with your savings, things could get complicated with your tax authority.
Establishing your business as a corporation or limited liability company (LLC) makes it a separate legal entity, which means it will need its own bank account and ledger.
If your biz is an LLC or corporation, it’s a legal requirement. Not keeping personal/biz money separate can invalidate your legal liability protection. Plus, it's much easier to track at tax time.
However, if you choose to register your business as a sole proprietorship, all income and losses will be tied to your earnings.
Either way, keeping your personal and corporate finances apart eases your mind when your company undergoes an audit.
If you don’t, it will result in potential tax return inaccuracies subject to penalties and interests. And should you face business losses and bankruptcy, your personal finances are not safe when creditors pursue your assets.
Simplify your bookkeeping
Good business bookkeeping hygiene involves you recording and managing all financial transactions—from business expenses to income. Bookkeeping software like Bookkeeping software like FreshBooks and QuickBooks Online have Shopify integration features that will save a lot of your time.
If your personal and business finances are separate, you’ll have a simple, accurate record of your money, which will make your life easier come tax season.
PRO TIP: Upload every business receipt to your bookkeeping system for easy expense and write-off management.
Bookkeeping software can also save you money. Many CPAs and tax professionals charge additional fees for organizing your books ahead of filing your taxes. If your books are already squeaky clean, that will be one less thing to worry about.
Earn customer trust
Most customers would rather send a check or make payments to your business than transfer funds directly to you.
Having a separate business account is also a way to demonstrate professionalism, aside from working on your branding with logos and website. Professionalism is part of customer service and creating a good impression. It’s crucial because 67% of customers are willing to pay more for better customer service
Streamline the business loan process
Although many small business owners want to avoid loans, there are situations when they’re needed—and that’s completely normal! It’s part of the entrepreneurial journey.
If you decide to do so, having a different bank account for your business finances will make the process faster for two main reasons:
- You can verify the health of your business quickly and accurately
- You can be sure your personal savings won’t be tied to your business loan
Best practices for healthy business finances
We’ve covered the top reasons to keep your business and personal finances separate, but what’s the best way to do so? Here’s advice on how to set your business up for success financially.
Consider incorporating your business
The type of business entity you choose will be your legal form of operation. This draws the line between your business and personal taxes so you can safeguard yourself and your company.
You can choose from several business structures depending on your business:
- Sole proprietorship: An unincorporated business in which there is no legal separation between the business and the owner.
- Partnership: A single business with two or more owners.
- Corporation: An organization separate from an individual
- S corporation: This incorporates small businesses, but gives them the tax exemption of a partnership.
- LLC: This structure offers the benefits of partnership while offering corporation liability protection
LLCs provide US business owners with personal liability protection as they shield their personal assets from the debt they incur.
Make sure you know which type of business structure will suit your overall growth goals.
Choose the right bank
There are countless banks to choose from, so which one is right for your business?
When choosing a bank, there are several things to consider:
- Transaction limits
- Accounting software integration features
- Availability of services you need
- Minimum account balances required
It can be difficult to choose the right banking products for your business because only you can know what will fit your needs. Determine what features and services you will need to fulfill your customers' needs and find out what you should know before opening a business banking account.
Shopify recently launched Shopify Balance, a money management account built for small business owners. With Shopify Balance, you can get a money management account without stepping foot in a bank. Plus, you can get paid faster, avoid fees, and earn cashback as you grow your business.
Set up a dedicated accounting system
Tracking your business’ income and expenses through a separate checking account is a good start, but it'd be wise to develop a more thorough accounting strategy.
DIY-minded individuals can monitor their income and expenses using a small business accounting software tool, like Freshbooks, Quickbook, and Wave. Prices vary, but monthly plans are available for as low as $15—although you can find some that are absolutely free.
Many of these solutions make it possible to create invoices and process payroll as well. So you can find most of the relevant information for your business there.
If you’re hoping to take it up a notch or escape the stresses of handling your business finances, you can work with an accountant or bookkeeper. However, this does come with a hefty price tag. Accountants for small businesses typically charge between $150 and $400 per hour, depending on factors such as the type of work, experience needed, and location.
Pay yourself a salary
One of the toughest things about running your own business? Paying yourself.
It can be difficult to start paying yourself as you’re building your business. But it’s one of the best things you can do for yourself as you grow.
If that’s your situation, remember it’s important to take care of yourself and not undervalue the work you’re putting in. Otherwise, you’ll be living in discomfort and might even lose interest in your own business. To give you a reference, US small business owners make an average of $65,605 per year, according to Payscale.
Stick to your budget
Your budget is the North Star of your business finances. Without it, it will be easy to overspend or misallocate money, especially as you start to ramp up.
If you don’t have one already, here’s how to create a budget for your business:
- Take a look at your past revenues. Ask yourself where your business income is coming from.
- Determine your recurring costs, such as taxes, payroll, product costs, etc.
- Identify your variable costs, such as marketing budget and transportation. In most cases, the variable costs can be reduced, especially during slower months.
- Remember to allocate some funds for business emergencies. If you have extra income, refrain from investing much on variable costs unless you’ve already saved up for a rainy day.
- Once you’ve gotten all the relevant information, deduct all your costs from your income. It’s normal to have good months and bad months when operating a small business.
- Plan your business budget using this information. You can also set target sales quantity to make sure you meet the budget net profit. Make it a habit to study your performance every month and make adjustments in the next period.
When you know how much you can spend on your business, making decisions gets easier. Plus, a budget keeps you grounded so you won’t have to reach into your own pocket.
Track your business expenses
To monitor your expenses closely and keep your business on track financially, you need to understand the difference between personal and business expenses.
For example, buying materials for your new product would be considered a business expense. Buying groceries for your home would not—unless, of course, they directly contributed to your business.
Keeping your business receipts separate is vital when running your own company, as joining them with personal receipts could have disastrous tax consequences.
Certain expenses, such as entertainment, travel, home office, and gifts are particularly tricky to track. These personal expenses can be business expenses in nature. The key here is if it brings tangible or intangible value to your business and the people involved, you can treat it as a business expense. Authorities are cautious of people claiming personal expenditures as business expenses. So long as you have receipts to back it up, you’re going to be fine.
Don’t rely on personal loans to fuel your business
Investing money into your business involves risks. And while it’s sometimes unavoidable, especially at the beginning, you don’t want it to become a habit.
The goal is to have your business stand on its own—and for that, you should refrain from providing your company with personal loans.
Your finances will provide you with a safety net in the event your business doesn’t pan out. And if it’s the other way around, and you find yourself in a personal finance jam, segregating your business income properly guarantees your company doesn’t get caught up in a mess.
Work on getting good credit, so you can use it to invest and scale your business.
Get your finances in order sooner rather than later
Separating your personal and business finances requires a lot of planning. So, it’s important to get a jump start.
To put it simply: Keeping your finances apart means less of a headache for you.