Separating Business and Personal Expenses for Sole Proprietors
As a sole proprietor, separating business and personal expenses is essential for properly managing your finances. We explain why here.
When most people start small businesses, they hit the ground running. They disregard a lot of small details that could put their business into jeopardy. This is why about 90% of small businesses fail.
One of the most vital details of your business is finances, and it could be a real problem if you mix business and personal finances. So, what are the dangers of mixing business and personal finances? This guide will explore the various reasons why separating business and personal expenses should be a top priority.
You’ll Lose Track of Your Business Expenses
Tracking business expenses is one of the most crucial aspects of growing a successful business. It holds you accountable for your finances, helps you stick to your budget, and reveals the trail of your spending.
This is more important if you have spending problems or money management problems. You could be draining all your business capital into personal issues.
Business expenses include salaries, utilities, rent, phones, insurance, and office supplies. However, you can always expect to pay legal fees, consulting, advertising, promotions, and other marketing expenses. On the other hand, personal expenses could be anything from lunches to shopping that’s not related to your business in any way.
If you were to have lunch with your client, it would count as a business expense. Alone, however, is classified as a personal expense. Now, unless you practice separating business and personal expenses, all these expenses can get really confusing.
The biggest problem with losing track of your business expenses is that you’ll have no way of knowing what kind of profit you’re making. Your personal expenses may be eating away at your business profits without you realizing it. Without cash flow, you’re likely to close your business than grow it.
You Risk Your Personal Bank Account Being Closed
As you grow your business, your expenses will grow as well. When your bank realizes that you’re using your personal account for business expenses, they’re likely to request that you open a business account.
Failure to this may lead to the closure of your personal account. You see, banks charge different fees for business and personal expenses, with business fees being higher.
Bookkeeping Will Become a Nightmare
Bookkeeping and accounting are some of those things you’re absolutely going to dread as a business owner. Unless you practice separating business and personal expenses, it could be a real nightmare. Bookkeeping will help you determine if you need to pay taxes, and the government will want the information as well.
It’s vital that your bookkeeping and accounting records are accurate so you can avoid trouble with tax authorities. Having a separate business account where you can track every business expense, regardless of how small that is, will help you keep your records clean. This will help you avoid tax problems and put you in a better position to manage a business.
Claiming Deductibles Will Be Impossible
When using your personal account for business expenses, claiming tax deductibles will be impossible. You may not know this, but business expenses are tax-deductible.
This basically means that those expenses can be deducted from the revenue your business generates. As a result, they lower the profit when taxes are calculated and help you reduce your tax bill.
It Could Be Hard to Mitigate Legal Issues
If it gets to a point where someone sues your business, your legal representative might need to present a money trail to prove the case. It’s going to be incredibly hard for them to achieve this feat if you mix business and personal expenses.
One of the best finance tips for sole properties is to separate business expenses from personal expenses. It makes everything accurate and helps mitigate such legal problems.
It Could Lead to Tax Miscalculations
It’ll get to the point when you have to calculate all your costs and income for the year for tax reasons. During this time, you will spend a ton of time separating personal and business expenditures, and tax miscalculations will be inevitable.
This can lead to a major problem because the IRS requires accurate and final tax returns, failure to which you could be audited. Separating business and personal expenses has never been more important than the fact that they could lead you into problems with the IRS.
It’ll Lead to Unprofessionalism
A lot of small business owners don’t know this but mixing personal, and business accounts can lead to loss of great opportunities. You see, as your business grows, you will come across people who are willing to invest in it, advertise your products, and help promote your business. To these people, using a personal account looks like an unprofessional move, and they may not be willing to continue doing business with you.
Besides, a lot of venture capitalists are likely to require that you share business information such as existing cash flow. You have to represent this in the form of bank account statements, or you may have to grant permission for them to access your data on a shareholder report.
These capitalists may lose interest the moment they realize that you can’t separate business and personal expenses. You’ll risk losing out on potential opportunities for your business.
A Personal Account Limits Legalities
As a business owner, the first thing you need to understand about your business is that it’s a free-standing entity from your personal expenses. Given the fact that a sole proprietorship is not necessarily a legal entity, you will be personally responsible for all debts related to your business.
As a result, separating business and personal expenses become paramount. Your personal assets could be confiscated for your business debts.
Importance of Separating Business and Personal Expenses
There you have it! These are some of the most fundamental reasons why separating business and personal expenses is crucial. There are so many things that could go wrong if you don’t track your business expenses, and it could eventually lead to the downfall of your business.
Now, the right thing to do is open a business checking account, so get in touch with us, and we’ll help you through it.