Being your own boss sounds really nice doesn’t it?
Your success or failure will be determined by your own knowledge and skills. If you’ve gone so far as to start your own business, chances are you’re very confident in your abilities and you expect to succeed.
Believing in yourself and your business acumen is a good thing.
There’s no denying the fact that running your own business is hard, but the reasons why could be a surprise to some.
Managing your own business involves more than just coming up with good products and/or services to offer and hiring the right employees. One thing you may have overlooked is the financial management aspect of this endeavor.
As many financial experts such as Graylock Advisors will tell you, one of the greatest challenging of owning a business is simply keeping your personal and business finances separate.
To better understand why that aforementioned challenge can be so daunting, it helps to know about personal and business finances first.
What Is Personal Finance?
According to Investopedia, personal finance refers to how you manage your own money. The term itself can account for saving your money or investing it. Even when you take out a mortgage or pay for insurance, those are still considered as aspects of personal finance.
Personal finance can become complex because there are so many things you can do with your money, but it is still easier to handle compared to business finance.
What Is Business Finance?
Business finance is also a broad term. Per Bizfluent, the term accounts for the different ways in which a company may earn and spend money. Strategies involving company funds are also involved in business finance.
At first glance, it would seem that personal and business finance are pretty distinct. However, you should know that business finance also refers to the money used to run or perhaps upgrade the business.
If you run a business yourself, you will understand how those two seemingly distinct aspects of finance can overlap every now and then.
Why It’s Best to Keep Personal and Business Finance Separate
Being your own boss means having complete freedom to do whatever it is you want to do. Mixing personal and business finances may not seem like a big deal in the moment since it’s just your money anyway, but you’ll quickly learn that meshing the two together can be very problematic.
Potential Legal Issues Could Be More Damaging
Once the lines between you and your business have been blurred from a legal standpoint, you could end up being exposed to a world of hurt.
If an employee of yours makes a mistake that prompts a customer to take legal action, it’s not just your business that can be heavily impacted by the upcoming proceedings. Your personal life could get dragged into the mess as well if you didn’t keep your personal and business finances apart.
That works the other way too. Personal matters can bleed into your business causing trouble for you and your employees.
No one wants that to happen, so make it a point to keep your finances distinct and separate.
Your Muddled Finances Can Turn into an Accounting Nightmare
This point is obvious, but it’s worth mentioning anyway: Your personal and business finances will be incredibly difficult to keep track of if you mix them together.
Even if you hire an accountant to handle this for you, chances are that it will take ages to create clear and concise reports. If you run out of time to file your personal and business tax returns, you only have yourself to blame.
Mistakes on those tax returns could also trigger an IRS audit and you really don’t want that.
Legitimacy Will Prove Elusive
As Inc.com points out, you should also keep your personal and business finances separate because doing so lends greater legitimacy to your company. That may not mean much from a legal standpoint, but your customers may see things differently.
You should welcome anything that can improve your business prospects. Separating your personal and business finances is one of those things.
How Personal and Business Finances Become Intertwined
Now that the importance of separating personal and business finances have been established, it’s time to focus on how those two get mixed up in the first place.
As you’ll see, mixing them up is quite easy, which is why you need to be very careful.
Accounts and Transactions Not Properly Separated
When you’re just trying to get your business off the ground, odds are that you will be inclined to do anything that can help you save money.
The business needs an account of its own, but spending an afternoon at the bank just to open up a new account can seem like such a waste of time. After all, you’re the one funding the business anyway. You should feel free to just use your bank account for it as well.
The problem with doing that is that you’re bound to make a mistake at some point. Even if you keep track of all the financial transactions involving your bank account, you are probably going to miss a few things when the days become busier.
By taking the time to open up a separate bank account for your business, you can avoid all that potential trouble.
Also, you should always remember to keep the cards connected to those accounts separate as well. It’s easier to track the transactions taking place by having different bank accounts and cards linked to them.
Failing to Give Yourself a Set Salary
Small business owners may think that not setting a salary for themselves and just “taking what’s left over” is good for the company. With no set amount for how much you should earn, you can take a little less if money’s tight.
While that may seem like a fine idea in theory, in practice, it can be quite problematic.
Your accounting records are surely going to raise a few eyebrows if it looks like you’re taking out random amounts of money from the business.
Wanting to help your business out of a tight spot is understandable, but failing to give yourself a fixed salary is not the way to do it. Keep things simple and just determine a fixed salary for yourself.
The Balance Small Business recommends setting your salary according to what other people in the same position as you earn regularly.
Not Differentiating Loans from Investments
Going through a rough patch as a small business owner is inevitable. One way to get out of that spot is to infuse your company with some cash. If you have some money to spare, you can do exactly that.
However, you can’t just withdraw X amount of money from your personal bank account, deposit it into the business’ bank account, and call it a day. You’re just solving a problem by creating another one if you do things like that.
You have to be more careful because loans and owner investments are very different from one another.
If you’re putting the money into your business with the intention of getting it back once the rough period has passed, clearly identify the cash infusion as a loan and prepare the necessary paperwork for it.
If you can afford to simply infuse your business with your money, you can consider the transaction as an investment. Even if you won’t be able to take the money out of the business’ bank account later on, you still have to clearly indicate that the cash you provided counts as an owner investment.
Turning Part of Your Home into an Informal Place of Business
You probably won’t have the money needed to purchase some office space when you first open your business. There’s nothing wrong with that.
Conducting business operations from home is something small business owners often do and it can be effective if executed correctly.
The key here is to come up with paperwork which indicates that you are simply renting space out to your business inside your home. From a legal standpoint, only that room you’re using for your business will be considered as company property.
Make sure you treat it like company property, meaning things like TVs and other items not needed for your business should be kept out of that space.
Combining Business Hours with Personal Hours
The people on the company payroll are given working schedules they need to adhere to. You should do the same thing for yourself.
Create your own working schedule. It can be the traditional 9:00 a.m. to 5:00 p.m. weekday schedule or you can go for something different. It’s up to you.
What’s important is that you follow your working schedule properly. If you’re supposed to be working up to 5:00 in the afternoon, avoid activities unrelated to work until then.
You should extend this to your vacation time as well. There’s nothing wrong with going on a trip out of town with your family, but be sure to designate it as a vacation and not as a business trip.
It takes a lot of work to separate personal finance from business finance, but as industry experts such as Graylock Advisors are quick to say, it’s worth taking the time to do exactly that. Overlapping finances will only cause problems. Avoid them as much as possible by handling the personal and business finances properly.