Answers to key questions on the importance of separating your personal and your business finances.
Why is it important for business owners to separate their personal finances from their business finances?
Those in business a while know too well the challenges that come with various aspects of setting up, running, managing and planning for a business. Within all of these areas the mixing of personal and business finances will not only add to your workload, it could lead to confusion and complications with things like budgeting, cash flow management, tax assessment and credit applications, not to mention the risks for you personally as a result if your business fails.
“You need to have a clear view of your personal and business income and expenses and this will only be aided by separating the two”
There are multiple benefits to maintaining separate accounts for personal and business finances. As a Financial Wellbeing coach, I discuss in my seminars the importance of visibility and awareness when it comes to your managing finances. You need to have a clear view of your personal and business income and expenses and this will only be aided by separating the two.
What are the pitfalls of failing to separate personal and business finances and do many business owners make this mistake?
Speaking from my experience as a bank manager, a wife to my self-employed husband and the daughter of an entrepreneur, I have seen first-hand how this common pitfall impacts on individuals, on families and on their business. I fully understand that finance is not everyone’s forte. This is a common mistake made by many with their own business and one that is easily put right, started by opening a business account.
Having done all the hard work to get your business up and operating, the last thing you want is failure because of poor financial management. If you mix your personal and business finances, you are leaving yourself open to a minefield of financial pitfalls which include:
Impact on Budget and Cash flow management: First of all, many business owners fall into a trap of believing they have more disposable funds than is the case. This includes spending the balances on accounts to fund personal expenses and lifestyle without considering and budgeting for further expenses due; for example, irregular direct debits and possible debtor or creditor payments due on the business side. Using the business finances to fund personal debts and vice versa over time could greatly impact on both aspects. In the process one risks damaging their credit profile reputation and the business relationship with suppliers should they have late or missed payments.
Inaccurate representation of business financials: The main requirement when completing a tax return and when applying for credit is the financial statements. By mixing the two it makes it difficult to assess your true financial position and could lead to error in both instances.
Increasing fraud risk on the business account: By using a shared account for your business and personal finances, you could be increasing the exposure fraudsters have to your finances should they succeed in their attempts. If fraudsters gain access to a business account, by having your personal funds held separately, you potentially reduce the risk on part of your finances.
Making incorrect tax returns: Paying tax is a fundamental duty, but overpaying tax or finding that you made an error in your tax return is not something any business owner wants. A clear record of your business expenses and how you paid for them will make this task a lot simpler and the easiest way is by having a separate business account.
What are the advantages of keeping your business and personal finances separate?
As your business grows you learn to shape and adapt the model, but keeping the basics right will make the journey a little easier. One of those basics is maintaining clear visibility and setting clear boundaries between your business and personal finances.
This has the potential to save you money and save time in dealing with tax returns, accountants as well as audits. This will put you and your business in a far better position to identify any developing problems that could undermine your financial situation.
Are there additional tax advantages to separating your business and personal finances and what are they?
This is perhaps the most important reason to separate your business and personal finances. As a business owner, you can claim a deduction for certain expenses through Revenue such as business travel and supplies. To process your claim you need to have a clear paper trail of the business expenses incurred and demonstrate how you paid for them.
Maintaining a clear and separate account of your business expenses means there are no blurred lines between the two.
Most accountants have an hourly charge structure. By keeping your finances separate you are reducing the time they need to trawl through your accounts to distinguish between personal and business expenses and in turn you could be greatly reducing the fees you pay for that service.
How does it impact the ability to raise credit/working capital to grow your business?
When the time comes to grow and invest further in your business, you could be heavily reliant on your ability to obtain working capital/credit. Having your accounts combined makes it difficult for the lender to get a clear view of the businesses income and expenses. In particular, when applying for a loan, it makes it difficult for the lender to establish your repayment capacity which could have a negative impact on the outcome of the application.
Presenting business financials in a clear, professional manner will leave a better impression of the business owner, will simplify the process for the lender and the applicant, which could lead to a faster and more accurate decision.
Disclaimer: The information prepared above by Bank of Ireland “BOI” is for information purposes only and does not constitute financial or tax advice. You should seek assistance from a professional if you require financial or tax advice. No liability is accepted by BOI for any errors or for any loss to any person in reliance on this information. BOI believes any information to be correct at 28 September 2021, the time of publishing, and the information is subject to change without notice. BOI does not make any representations or warranties in respect of the accuracy of this information and is not responsible for the content of external sites. Please refer to our Term & Conditions for the use of the ThinkBusiness.ie Website for further details.
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As a seasoned financial professional with extensive experience in both banking and as the spouse of a self-employed individual, I can attest to the critical importance of separating personal and business finances. The article you provided highlights key concepts related to this practice, and I'll break down each aspect to underscore its significance:
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Challenges in Business Management:
- The article emphasizes that managing a business involves various challenges, and intertwining personal and business finances can exacerbate these difficulties. It mentions the potential for added workload, confusion, and complications in crucial areas like budgeting, cash flow management, tax assessment, and credit applications.
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Benefits of Maintaining Separate Accounts:
- The Financial Wellbeing coach, mentioned in the article, stresses the importance of visibility and awareness in financial management. Separating personal and business finances is deemed essential for gaining a clear view of income and expenses in both realms. This separation is identified as a fundamental practice for effective financial management.
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Pitfalls of Failing to Separate Finances:
- Drawing from the author's firsthand experience as a bank manager, spouse, and entrepreneur's daughter, the article highlights the common pitfalls associated with failing to separate personal and business finances. These pitfalls include the impact on budget and cash flow management, inaccurate representation of business financials, increased fraud risk, and potential errors in tax returns.
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Advantages of Keeping Finances Separate:
- Clear boundaries between personal and business finances are cited as fundamental to saving both time and money. This separation facilitates easier handling of tax returns, collaboration with accountants, and preparation for audits. The article emphasizes that maintaining this basic practice contributes to a more robust financial position for both the business and the owner.
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Tax Advantages:
- The article underscores the importance of maintaining a clear paper trail of business expenses for tax purposes. It explains that by keeping finances separate, business owners can claim deductions for certain expenses through revenue. This separation is highlighted as a means to reduce the time accountants spend distinguishing between personal and business expenses, potentially leading to lower fees.
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Impact on Credit and Working Capital:
- The ability to raise credit or working capital is directly tied to the separation of personal and business finances. The article outlines that presenting clear and professionally managed business financials positively influences lenders. It simplifies the process, allowing for a faster and more accurate decision on credit applications, thus impacting the growth potential of the business.
In conclusion, the information provided aligns with best practices in financial management, emphasizing the tangible benefits and potential pitfalls associated with the separation of personal and business finances.
