So you’ve started a business. Maybe you’re in the process of starting a business, or hell,  maybe you’ve started a business some time ago. But there’s something that has been NAGGING at you and you still haven’t had time to deal with it: Separating your personal and business finances.

While you’ve heard that you SHOULD do it, you’ve never heard about the HOW,  the WHY, or the WHAT you need to seperate. Because, true story, everything about money is so damn vague.

No more vaguebooking friends! I’m pulling back the curtain on separating your finances and telling you everything you need to know about keeping your business and personal finances separate.

Join me every Wednesday 12pm PST on good ‘ol Facebook for the next episode of The Andi Smiles show!

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Why We Separate (3:53)

During the live portion of my show, a viewer mentioned that she doesn’t separate her business and personal finances because she’s not legally required to do so.

It’s true – you’re not mandated by law, especially for sole proprietors, to separate your accounts. BUUUUUT… the IRS really, really, really likes it when you do. If you’re audited, they’ll go through every single line item on your bank statement. They’ll have a lot more questions if your personal and business expenses are combined into one bank account.

Separating your finances allows you to be more transparent. If you’re ever audited, having clean, easy-to-read bank statements will make the process way less of a headache.

If your business is an LLC or S-Corp, your business is a separate entity from yourself. 

Which means that you NEED separation. Your business now exists outside of yourself…and your personal finances!

Here are the other of the benefits of separating your business and personal finances:

  • Separating your finances keeps you more organized
  • You have fewer errors when you’re calculating income and expenses
  • You find more deductions when you’re ready to file during tax season
  • You save money
  • Bookkeeping is less emotionally draining which means you’ll be more likely to get it done

What should be separated? (11:35)

Hopefully, I’ve convinced you of the gloriousness of separating your finances! Now we can talk about the next step, which is what finances should be separated.

Business Income

The first thing is your business income. Business income is not your 9-to-5 income or your W-2 job income. Business income is your self-employment income. You need to separate your side hustle income from your employee-earned income.

You want to separate these incomes because they are taxed differently. If your W-2 income is combined with your self-employment income, you could wind up paying WAY more on your taxes then you need to. I’m talking about owing the IRS thousands of extra dollars. So this is very important to do!

Business Expenses

The second thing that you’re going to separate is your business expenses. Everything you spend on your business is an expense, AKA a tax deduction. The IRS defines a tax deduction as a necessary and ordinary expense. Necessary means that you need this expense in order to own and operate your business.

Ordinary means that it’s an expense that pretty typical to all businesses. A good example is advertising and promotion. Most businesses do some sort of advertising, even if it’s just a website.

This question came up in my Facebook group, Boss Babes Business Finance: What about deductions that are split between business and personal that cannot be separated?

Typically, your cell phone, your home internet, and your home office expenses are split expenses because only a percentage of those bills can be used as tax deductions. These are the exceptions to keeping your business and personal expenses separate. You wouldn’t run your mortgage or your rent through your business account.

That is that one little hiccup in this separation situation, which I know is a bummer, but it is also the way of business finances.

Business Loan Payments

If you had to take out a loan to start your business, then in the most correct bookkeeping sense, you should be paying back that loan from your business account.

Credit Card Payments

Business credit card payments should also be paid strictly from a business account. I see a lot of new business owners paying their business credit card from their personal accounts, which gets messy, disorganized, and is a bummer on your personal cash flow. 

Tax Savings

Your tax savings should be placed in a business saving account for safekeeping until it’s time to pay your estimated taxes. 

So why does this matter? Because NOT separating these things can majorly upset your cash flow and makes budgeting nearly impossible!

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How to Separate (24:29)

Now, the cool stuff, which is how to separate your personal and business finances. I’m going to talk about three ways to deal with this.


Open a new Biz bank account (25:05)

Opening a new business bank account will save you so much time and energy in the long run. As your business grows, you’re going to have to do it at some point anyway. You might as well get it over with now and save yourself the bookkeeping nightmare.

There are two big questions that hold people back from opening a business bank account.

First- do I have to open the business version of a bank account that my bank offers? That can feel overwhelming because these types of bank accounts have high balances that you have to maintain, or you have to deposit a certain amount of money every month.

Luckily, the answer to that question is no.

You can just open a personal bank account if you’re worried about fees. Look into credit unions. Credit unions have low-cost business bank accounts and personal bank accounts. What we want is separation. You don’t need a fancy smancy bank account! 

The other thing that people wonder is, does it have to be at the same bank as my personal account? Nope! If you’re making excuses like, I don’t like my current bank, then don’t open an account there. You can totes take your dollars somewhere else. 

So what happens after you open a new business bank account?

Only use this bank account to deposit your business income into and for business expenses. When the personal you needs money, transfer what you need out as your owner pay

What if I don’t have enough income to cover my business expenses? What if I’m starting out and there’s not enough money in there? What if I’m using my personal account to pay for my expenses?

If that’s the case, every week or month, make a transfer into your account to cover those expenses. This is called an owner contribution. Owner contributions are nifty because they aren’t counted as income so you won’t be taxed on it. 


Convert an Existing bank account (30:30)

The next method is to convert an existing bank account into a business account.

But I really don’t want to open another account, I have too many accounts already.

Then turn an account that you’re not using very much into a business bank account!  Stop using this account for personal expenses and deposit your business income into this account. Then, update all your recurring business transactions information to withdrawal from that account.

One of the reasons I’m not in love with this method is that you have to be diligent about switching out all of your personal recurring expenses linked to this account. Then, you have to do your due diligence to go in and switch all your business expenses over to this account. 

This is a good method for people who feel overwhelmed by opening another bank account. Maybe you have a lot of different bank accounts that you use sporadically. Or maybe you have an old bank account that you opened at some point, and you haven’t really used it recently.

These are good accounts to convert into a business bank account! You don’t even have to go to the bank.


Credit Card Just for Business (32:33)

I really just do not want to have a business bank account. If that’s how you’re feeling, bad news, you still need to separate your business and personal expense. The workaround? Having a credit card just for business expenses. 

This looks like converting one of your credit cards into a business credit card, which you only use for business purchases. Here’s the benefit: in your bookkeeping program, instead of going through a bank statement cluttered with personal and business expenses, you get one statement that’s all business.

You then pay your business credit card from your personal account. This is why I don’t love this method because we’re not really as separate as we should be. BUT, at the very least, this method gets your expenses in one place.

The other drawback is that you’ll need to track your income separately since this method only addresses separating expenses. 


What about personal loans to business? (35:35)

There’s one other thing that people ask me about when it comes to separating their personal and business finances is: what about loans from my personal account to my business account?

The first thing to understand is how you get taxed as a business owner, because this impacts the “loan”. As a business owner, you get taxed on the profits of your business, regardless of your contributions and draws. You get taxed on your net income. That’s your taxable income.

If you loan money from your personal account to your business, it won’t have any bearing on your taxes. What this means is that you’re only looking at how to track this stuff based on your needs.

There are two ways to go about it. How important it is for your business to pay you back will determine which method you use. 

The first method is tracking these “loans” as equity because equity does not show up on your Profit & Loss report. Just call it an owner contribution, consider it equity, and you’re done! This is best for people who don’t need their business to pay them back the exact amount of the contribution and just want to be sure they aren’t getting taxed on it. 

The next method is calling the loan a called a liability, which requires more tracking. This method is best for people who want their business to pay them back. Tracking the loan (and subsequent loan payments back to yourself) as a liability ensures that you have details about the progress your business is making in paying you back. 

Want to learn even MORE healthy practices for your money? Download the Healthy Financial Habits for Your Biz cheat sheet! It’ll help you improve your business tracking and bookkeeping plus staying on top of your finances and establishing a positive cash flow!

 

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