The first rule of running a business is to keep your personal and business finances completely separate from each other. Your business is a distinctly separate entity and needs to be treated accordingly. If you don’t follow this rule, your personal finances could be in jeopardy.
How to Keep Finances Separate
This includes keeping separate bank accounts for yourself and your business. A separate business account provides accurate records for keeping track of your business expenses for accounting and tax purposes. Besides a bank account, having a separate business credit card can also help you track your business expenses and build your company’s credit history separate from your own.
Keep track of all business receipts to substantiate business tax deductions. To be deductible, a business expense must be both ordinary and necessary. “Ordinary” means it’s an expense commonly accepted in your industry. “Necessary” means it’s helpful and appropriate for your trade or business, but it doesn’t have to be indispensable.
You and Your Business are Separate Entities
When you started your business, you determined its entity structure, such as whether it would be a sole proprietorship, an LLC, or an S-Corporation. One of the reasons for selecting a specific entity structure is to provide liability protection for your personal assets in case of any legal action against your business. If something negative happens in your business, you don’t want it to also impact your personal assets. But in order to maintain that “corporate veil”, your business must look and act and act like a separate entity and not like your “alter ego”.
What if the Distinction’s Not Clear?
Sometimes keeping business and personal expenses separate can be difficult. For instance, what if you drive your car for both business and personal purposes? In that situation, you’ll need to keep accurate mileage records for your business use to determine the proper allocation between the two. You can deduct actual car expenses, including depreciation, lease payments, gas/oil, tires, repairs, tune-ups, insurance, and registration fees. Or alternatively you can use the standard mileage rate, which as of July 1, 2022 is 62.5 cents per mile. Remember that commuting expenses between your home and your business location are not tax-deductible. If you’re self-employed, you can also deduct the business part of interest on your car loan, state and local personal property tax on the car, parking fees, and tolls, whether or not you claim the standard mileage rate. More information on the business use of a car can be found in IRS Publication 463, Travel, Gift, and Car Expenses.
In Conclusion . . .
Keeping separate accounts, assets, and records for your business can help you in many ways:
- At tax time when determining appropriate business tax deductions
- When applying for a business loan
- Keeping accurate measurements and tracking how your business is doing
- Protecting your personal assets from any business legal issues