When entrepreneurs are talking of how businesses emerge, many will say that they started their businesses to make some money for survival during hard times while others follow their passions to live a more fulfilling life and many other for the sake of being their own bosses. These routes to start-up are only a representation of the diverse backgrounds of business and we can sum it up that there is no clear way to starting a business.
It is such diversity mentioned above that usually makes it hard to formalize a business from the word go. To many, an individual’s life is often hard to separate from the business especially during the start-up phase as these entrepreneurs transition to business. It is now based on that transition process that business and personal finances are mixed up. For many who have gone through this process, one will confess that separating business and personal finances is not only inconveniencing and not easy to categorise them but is also does not seem important especially in the short term.
Starting off with the reasons why every entrepreneur should separate the business and personal finances, the benefits are surely instrumental to business growth and these include;
- Facilitates informed decision making:
Several decisions ranging from pricing, hiring new staff, location of the business and many others are best made with the right information. Failure to separate business and personal finances, may lead to wrong decisions being made. Consider a medium sized enterprise that uses the owner’s car for deliveries and when going for meeting, if such costs are not well apportioned between personal and business, it may seem like the cost of operations is a bit low and may push the business owner to lowering prices for his goods and or services based on wrong information.
- Financial reporting and planning:
There are many reasons why businesses produce financial reports and also make financial plans. Whether the financial reports are prepared for external purposes like the tax authorities and banks or being prepared for internal purposes, if business and personal finances have not be separated, such report will only be misleading as they will portray a contrary position to what will be on the ground.
- Simplifies Tax compliance
To be in the taxman’s good books, requires promptly meeting your tax obligations and this cannot be achieved without proper financial records. Separation of the personal and business finances enhances transparency and facilitates easier computation of the tax liability.
- Makes it easier to access financing services.
Before a business can access financing from an external party, it is usually required to submit its financial reports for scrutiny and determine its ability to pay back. When such business financials are mixed up with the personal finances, the financiers will surely be hesitant to give a green light due to the mix-up of the finances. It also reflects poorly on the financial management skills of the entrepreneur and may get the entrepreneur in an AWKWARD situation.
Based on the benefits above, we now give insights on how the process of separating your business to personal finances can be simplified. The wining strategies include;
1. Make the business an independent entity – formalize
The first step to support the separation of personal and business finances is by formalizing the business venture. There are different options which include a sole proprietorship, partnership and a limited liability company to choose from. Depending on the business structure different statutory requirements will come into play. When a business is purely a different entity from the owner, different accounts can be kept; it shall be independently be liable for tax and can also borrow separately from the owner.
2. Maintain separate bank accounts
Keeping separate account for business and personal purposes is another enabler in easing the separation of the two finances. Whereas we talk of separate bank accounts, also the discipline to separate personal cash from that of the business is also required. For example, let the business have a petty cash system and be kept in a lockable place at the business premises as opposed to having it in your wallet. It allows proper record keeping which is paramount to the cause.
3. Maintain proper records
Keeping good records is essential for all businesses. Maintaining good records of your transactions and tax invoices will help you to manage your cash flow and make sound business decisions. It will also make it easier for you to meet your tax obligations, and potentially save you time and money in the future. It is also important that such records are also supposed to be kept by law. By law a business must keep its records for at least seven years. Business records you need to keep include the;
- Income tax records
- Income and sales records
- Expense or purchase records
- Year-end records
- Bank records
- Employees and contractors records
4. Track shared expenses
When your work days are jam-packed, it’s easy for you and your employees to procrastinate the vital task of tracking expenses. This is made worse when personal and business expenses are mingled together. Recording the shared expenses is critical to success, though, because it directly affects your bottom line. Shared expenses may vary from a home that is also used for business to telephone costs and even use of a personal or business car for both work and personal activities.
5. Pay yourself a salary or some form of an allowance
Treating yourself as an employee in your own business by paying yourself a salary is another way to separate the business finances from personal finances. If you write a cheque or draw cash for the same amount every month from your business, you can make it easier for both your personal finances and your business finances to stay on budget.
I can just sum it up by saying that when you are an entrepreneur starting your own business, it is always a good idea to keep your personal finances and business finances separate.
Not only will it give your business more credibility and a sense of legitimacy, but in many cases it may also help reduce your personal liability when something negative happens down the road. It will also help you to be organized when it comes to paying your taxes, managing your bills and other payments.
By Brian Ahabwe Kakuru
Brian is the Managing Director at BLEGSCOPE®, and has 10+ years of management consultancy experience notably in the finance & banking industry, MSMEs, FMCG companies and in the service industry. You can follow him on twitter >> @BrianAhabweK