This Huge Bookkeeping Mistake Can Land You in Scary Legal Trouble
Are you using your business card to pay for personal expenses? If so, you could be committing a huge bookkeeping mistake that can put you and your business at risk.
Question: What’s the fastest way to get an IRS audit?
Answer: Mix your business and personal finances.
There are other red flags that can prod the IRS to audit you, but mixing your business and personal finances is certainly one of the big ones.
Yet mixing those finances can lead to more than several stressful hours with your friendly neighborhood IRS auditor. It can also put you at more serious legal risk, specifically in the courtroom.
Why Mixing Business and Personal Finances Is a Bad Idea
Let’s say Jared runs a small consultancy business. Because he’s smart, he set up his business as an LLC to help protect his personal assets from risk that may come from his business.
Unfortunately, though, Jared uses his business credit card to pay for personal things, and he never keeps track of his business receipts. To make matters worse, Jared doesn’t even consistently use his business bank account. When clients pay him, it sometimes goes straight into his personal account.
Then one day, a client is unhappy with Jared’s work—extremely unhappy. The client is so upset that he sues Jared for millions of dollars. Poor Jared thinks that because he has an LLC that he’s legally protected. They can only take his business assets, right?
Because Jared has been mixing his business and personal finances, courts can do something called “pierce the corporate veil.” That means they can lay aside Jared’s limited liability and hold him personally responsible for actions taken on behalf of his business.
If this were to happen to you, prosecutors could go after your personal assets, not just your business assets.
This is a huge deal. As a business owner, you want to protect your personal assets. Keeping your business and personal finances is the first step in doing that.
Note: We are not attorneys, and the content in this article should not be confused with professional legal advice. Please consult your attorney for legal questions and issues. That said, we are accountants with experience advising small businesses on financial matters, and the contents of this article reflect that experience.
How Do I Keep My Business and Personal Finances Separate?
The fact that you’re even asking this question is a step in the right direction. It does take intention and planning on your part to keep finances separate, so let’s look at how to do that.
1. Open a business checking account and keep it separate from your personal checking account.
If you haven’t done this already, call your bank right now and schedule an appointment to open a checking account for your business. If your bank doesn’t offer the best business accounts, consider going with another bank like Chase, Wells Fargo, or Axos Bank. These banks are well known for their accessible and easy-to-navigate business checking accounts.
2. Take out a credit card in your business’ name and use it only for business expenses.
No more using the company credit card to pay for a Starbucks drink on your way to work. (Although if it’s for a networking meeting, that’s fine.) And no more using company funds to fill your empty gas tank when your business meeting is only five minutes away.
We suggest that you take out a debit or credit card from your business checking account and then use it solely for business reasons. Trust us, this will save you headaches later on.
3. Take out a regular salary or owner’s draw.
In a recent blog post, we talked about the importance of properly paying yourself with a salary or owner’s draw. This is important for legal reasons, too. Click here to learn how to pay yourself safely.
4. Track your business receipts. (Virtual is easiest.)
This is much easier to do if you use a web-based accounting software like QuickBooks Online.
With the rise of online purchases comes the rise of online receipts. Lucky for you, QuickBooks Online allows you to easily upload PDFs of those online receipts for safe, accurate records. And when you do purchase something in-store and get a physical receipt, you can just as easily snap a photo of it with your phone and upload it.
5. Track when/how you use personal possessions for business.
This includes using your car to drive to a networking meeting or using your laptop for your online business.
When using your car for work purposes, you can track your mileage and write off the gas as a business expense.
With big expenses like a laptop, figure out what percentage you use it for personal use and what percentage for business use. (This is important for depreciation purposes.)
When in Doubt, Ask Your Accountant or CPA
Still have questions about how to keep your business and personal finances separate? We have a team of accounting experts who are available to advise you.
Schedule an appointment today so you can keep your business financially protected!