The Dangers of Commingling Personal and Business Expenses – And How to Avoid It

10/14/20244 min read

For many small business owners, the lines between personal and business finances can become blurred, especially when they’re managing the company’s books on their own. It's all too easy to pay for a business expense using a personal account or vice versa. While this may seem harmless, commingling personal and business expenses can lead to serious financial, legal, and tax problems.

In this post, we’ll explain why keeping your business and personal finances separate is critical, highlight the risks of commingling expenses, and provide actionable steps on how to avoid this common mistake.

What Is Commingling Personal and Business Expenses?

Commingling occurs when a business owner mixes their personal and business finances by using the same accounts for both personal and business expenses. This typically happens when:

You pay for personal expenses with your business credit card or business checking account.
You make business purchases with your personal funds or personal credit card.
You transfer money between personal and business accounts without proper documentation.

While this might seem convenient, it undermines the legal separation between you and your business – something that is crucial for financial transparency and liability protection.

Why Commingling Hurts Your Business

Here are several reasons why commingling personal and business expenses is a bad idea for your business:

1. It Complicates Your Bookkeeping

When you mix personal and business expenses, it becomes incredibly difficult to track your business's actual financial performance. It’s challenging to distinguish which transactions are business-related and which are personal, making it nearly impossible to generate accurate financial reports.

How this hurts your business: If you can't clearly see your business’s income, expenses, and profitability, it becomes difficult to make informed decisions. It also increases the likelihood of accounting errors, which can lead to over- or under-reporting your income and expenses.

2. It Could Lead to IRS Trouble

One of the biggest risks of commingling is the potential for IRS scrutiny. If you’re mixing personal and business expenses, the IRS may question the legitimacy of your deductions during an audit. This could result in penalties, fines, and disallowed deductions.

How this hurts your business: If the IRS determines that you’ve claimed personal expenses as business deductions, you may owe back taxes and penalties. In extreme cases, the IRS may even disallow your business’s status as a separate entity, which could result in further tax liabilities.

3. You Lose Legal Protection

For businesses that operate as LLCs or corporations, one of the key benefits is the protection of personal assets from business liabilities. However, commingling personal and business finances can “pierce the corporate veil” – meaning that in the eyes of the law, you and your business are no longer considered separate entities. This could make you personally liable for business debts and lawsuits.

How this hurts your business: If your business faces legal action or financial trouble, your personal assets (home, savings, etc.) could be at risk if you’ve commingled funds. Keeping business and personal finances separate is essential for maintaining that legal protection.

4. It Makes Tax Preparation a Headache

Commingling business and personal expenses can create a nightmare during tax season. You’ll need to spend hours sifting through transactions to identify which are personal and which are business-related. This process is not only time-consuming but also prone to mistakes.

How this hurts your business: Misclassifying expenses or missing deductions because of commingling can lead to inaccurate tax returns and missed opportunities to save on taxes.

How to Avoid Commingling Personal and Business Expenses

Here are some simple and effective ways to keep your personal and business finances separate:

1. Open Separate Bank Accounts

The easiest way to avoid commingling is to open separate checking and savings accounts for your business. This ensures that all business transactions are handled through one dedicated account, making it easier to track and record business expenses accurately.

Action step: If you haven’t already, set up a business bank account and use it exclusively for business transactions.

2. Get a Business Credit Card

Using a business credit card for business expenses allows you to easily track and manage purchases. Additionally, most business credit cards provide end-of-year summaries, which can be helpful during tax season.

Action step: Apply for a business credit card and use it strictly for business-related purchases. Avoid using personal credit cards for business expenses, and if you must, make sure to document the reason for each transaction.

3. Reimburse Yourself Properly

If you occasionally pay for business expenses with personal funds, make sure to properly document the expense and reimburse yourself from the business account. This way, the business expense will still be recorded in your business’s books without confusing your personal finances.

Action step: Implement a system for reimbursing yourself for any personal out-of-pocket expenses, ensuring each reimbursement is properly documented and categorized.

4. Keep a Clean Paper Trail

Maintaining detailed records of your business expenses is critical, especially if you use personal funds for a business purchase or transfer money between personal and business accounts. Save all receipts, invoices, and statements, and make sure every transaction is clearly labeled.

Action step: Invest in a bookkeeping or expense-tracking system that helps you easily record and categorize transactions, keeping everything organized for future reference.

5. Hire a Bookkeeper or Use Accounting Software

Using accounting software like QuickBooks Online can help you easily track your business’s financial transactions and ensure expenses are properly categorized. If managing the books on your own feels overwhelming, consider hiring a professional bookkeeper to help keep your finances in order.

Action step: Use accounting software or hire a bookkeeping service to ensure your books are accurate, organized, and compliant with tax regulations.

The Importance of Keeping Finances Separate

Separating your personal and business finances may take a bit of discipline, but it’s essential for the long-term success of your business. Not only does it ensure your books are accurate and easy to manage, but it also protects you from legal risks and tax complications.

Need Help Organizing Your Business Finances?

At Veslav Consulting, we help small business owners like you stay on top of their bookkeeping and avoid common pitfalls like commingling personal and business expenses. If you need assistance setting up your books, cleaning up your Chart of Accounts, or organizing your financial records, our team of experts is here to help.