Why a Separate Bank Account is Essential for Your Small Business

If you are self employed or a small business owner taking care of your own accounting and business finances,  you have probably discovered that this can be time consuming and occasionally frustrating.  It can sometimes be difficult to know if you are doing things correctly.  Consequently, you procrastinate, which makes things worse at year end or tax time.  To combat the problem it is important to have tools in place to facilitate the process and make it less painful, which could include  accounting software and/or a bookkeeper as well as a good organization system for your documents, whether you have a paperless office or a manual filing system.  Another very simple measure that you can take is to have a separate bank and credit card account for your business.

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Why Have a Separate Bank Account for your Business?

1. Setting up a separate bank account when you start your business is one of the easiest tools available to organize your finances.  Even in the absence of accounting software, or for self employed workers who do their accounting at the end of the year or closer to tax time, a bank account that is solely used for business transactions can be invaluable in assessing where you stand with respect to your finances at any given time.  By referring to the balance in your bank account you have a good idea of how much cash flow you have to spend on your business and how much you have to pay yourself.  And although, unincorporated business owners do not technically pay themselves a salary for tax purposes (they are taxed on the profit earned from the business – amounts withdrawn are irrelevant), it is a good way to discipline yourself as you can limit how much you withdraw to a fixed monthly amount, while any excess funds are used to develop your business.

2. Another important to reason to have a separate bank account for your small business is to ensure the separation of business from personal transactions.  In the event of an audit of your small business the revenue agencies are likely to ask for your bank statements.  Providing them with your combined personal and business bank statements could lead to unnecessary questions and hassles including having to prove where all non business deposits came from.

3. Online accounting software like Quickbooks Online and Xero allow you to download your transactions automatically thereby reducing data entry significantly and ensuring that all business related transactions are captured.

4. A separate business bank account allows you to pay business taxes using online banking including sales tax, payroll taxes and corporate income tax

5. Paying from multiple accounts can cause you to miss or forget to record invoices or expenses. One bank account that is reconciled on a regular basis (i.e. all entries on the bank statement are matched to your accounting records) ensures that you properly claim your expense deductions and ensure that you don’t understate your invoices.

Limitations of a Separate Bank Account:

A bank account, while helpful for understanding cash flow, does not replace an accounting system that would provide you with information on how much your customers owe you or how much you owe your suppliers. While the bank balance at the end of the period might give you some indication of profitability, it is far from exact.   Additionally, it does not give you information on cheques that you have issued, but have not yet been cashed or deposits that may have been received but not yet processed.  If you are using your bank account to track your finances, it makes sense to track accounts receivable, accounts payable and outstanding cheques/deposits separately either by setting it up on a spreadsheet or through accounting software.

Should you have a separate credit card for your business?

A separate credit for your business can also be invaluable in helping to separate business from personal finances. It can also prevent personal transactions from showing up in your business accounting. Many business owners tend to forget business expenses that are made on mixed use credit cards resulting in loss of business expense deductions (the net result of which is higher taxes!). Payments of your credit card balance should be made directly from your business bank account which gives you an even better separation of business vs personal and a more accurate picture of cash flow.  Note that a credit card does not have to be a business credit card as long as it is a separate credit card that is used mostly for business.

Other Considerations:

For this system to work it is important to be disciplined in using the bank account and credit card that have been designated, as much as possible for business transactions. If you are unincorporated, you would transfer a certain amount on a regular basis to your non business bank account. As mentioned above, ideally this amount represents a salary rather than ad hoc transfers whenever you require funds.

Although there are extra fees with an additional bank account and credit card, keep in mind that these are deductible for tax purposes.  Also, if you are not incorporated, the business bank account does not necessarily have to be a “business” account (which usually carry higher fees), but can just be a separate account. The downside of not having a separate “business” account is that you won’t be able to use it to make online tax payments. Similarly your credit card can just be another personal credit card that you use solely for business. It is important to note that if you are a registered business with a name different from your own, then you will have to set up a separate business bank account.   

While have a proper accounting infrastructure is important for every business owner, no matter how small, it can be difficult for the self employed to have time to take care of all aspects of their business given limited time and resources.  The simple step of setting up a separate bank account and credit card for business purposes can be a significant way to help small business owners have better control over their finances without having to do much in the way of additional work.

Ronika Khanna is an accounting and finance professional who helps small businesses achieve their financial goals. She is the author of several books for small businesses and also provides financial consulting services.

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