“Do I really need a separate business account?” Some one-truck businesses run out of the owner’s personal checking account for years: customer checks in, supply-house charges and the mortgage out, all on one statement. It works until someone needs to tell the business’s money from yours. Two people who may ask are a lawyer for someone suing the business and an IRS examiner. Here is why each one cares, the setup that answers them both, and the hour a week that keeps it that way.
Reason one: the protection you formed the LLC for
An LLC’s owners generally have limited personal liability for the company’s debts. That protection has an exception courts call “piercing the corporate veil,” in which a court sets limited liability aside and holds the owners personally liable. Cornell Law School’s Legal Information Institute names the “intermingling of personal and corporate assets” as one of the kinds of abuse that lead there, and on LLCs specifically says courts may pierce the veil “where the LLC operates more or less as an extension of an investor, not a separate entity with its own finances and documentation,” and that they most commonly do so where the LLC appears to be a way to defraud creditors, especially when it has only one investor. It also notes that courts vary greatly by state on when they will pierce an LLC’s veil.
The Small Business Administration puts the practical side in one line: “Business banking offers limited personal liability protection by keeping your business funds separate from your personal funds.”
Say a one-person deck-building LLC pays the owner’s car payment and groceries from the business account and deposits some customer checks into the owner’s personal account. Nothing happens until the company cannot pay a supplier and the supplier sues, then tries to collect from the owner. Now the bank statements are exhibits, and they make the company look like an extension of its owner, not a separate entity with its own finances. Separate accounts are not the whole test (Cornell’s veil-piercing entry also names undercapitalization at the time of incorporation), and an LLC has limits of its own that LLC, Sole Proprietor or Corporation covers. But mixed accounts hand the other side a ready argument.
Reason two: records that explain themselves
This one applies to sole proprietors too. IRS Publication 583 is direct: “One of the first things you should do when you start a business is open a business checking account. You should keep your business account separate from your personal checking account.” It also tells you to deposit all daily receipts into it, to identify the source of each deposit as business income, personal funds or a loan, and to use the account for business purposes only.
Why the IRS cares about the source of each deposit is clear from its own examiners’ manual. Internal Revenue Manual 4.10.4 lists “significant commingling of business and personal funds” among its examples of weak internal accounting controls. The manual is careful to add that not keeping separate accounts does not, by itself, justify reconstructing your income by other means; the examiner must first test whether your books are reliable and whether they reconcile to the return. But one of those other means is the bank deposits and cash expenditures method, which the manual recommends when a taxpayer’s books are unreliable, unavailable or incomplete. When every deposit lands in one mixed account, telling a customer payment from a transfer of your own savings is your job, years later, from memory.
The setup: one afternoon
- Get the paperwork together. The SBA says banks commonly ask for an Employer Identification Number (or a Social Security number for a sole proprietor), the business’s formation documents, ownership agreements and a business license.
- Open a business checking account. Every customer payment goes in here: checks, cash and transfers. Point your card processor or payment app at this account, not your personal one; the SBA notes that a payment processor still has to be connected to a business checking account to receive payments.
- Open a business savings account for taxes. Move a set share of every deposit into it the day it arrives, so the quarterly payment is waiting when it is due. Quarterly Estimated Taxes shows how to pick the percentage.
- Get a business credit card and use it only for the business. Supply-house runs, fuel, tools, software. Nothing personal, not even once.
- Pay yourself on purpose. Move money to your personal account by a transfer or a check to yourself, recorded as a draw. Publication 583 says to write checks payable to yourself only when making withdrawals for personal use, and to avoid checks payable to cash.
The weekly hour
Publication 583 recommends recording transactions when they happen and says it is generally best to record them daily. If daily is not going to happen, a fixed hour once a week is the next best thing. Same day, same time, the same five steps:
- Categorize everything that moved. Every deposit and every charge in the business accounts since last week, each with a category (materials, fuel, insurance, subcontractors, and so on).
- Match the paper. Photograph each receipt and invoice and attach it to its transaction. The publication’s point is worth remembering: proof that you paid, by itself, does not establish that you are entitled to a deduction, so keep the sales slip or invoice that shows what the money bought.
- Label every deposit. Customer payment, your own money put in, or a loan, as Publication 583 suggests.
- Fix the strays. A personal charge on the business card is recorded as a draw (or paid back); a business expense paid personally is recorded as money you put in, with its receipt.
- Move the tax money and check who owes you. Top up the tax account, then look at unpaid invoices while you are in the books.
Once a month, reconcile: the publication says to make sure your bank statement, your checkbook and your books agree, and to reconcile your checking account each month.
What to keep, and for how long
Publication 583 lists the documents that support your numbers. For income: bank deposit slips, receipt books, invoices, credit card charge slips and the 1099 forms you receive. For expenses: canceled checks, account statements, credit card sales slips, invoices and petty cash slips for small cash payments. If you have no canceled check, a bank statement can prove payment when it shows the right details: for a check, the check number, amount, payee and posting date; for a card charge, the amount, payee and transaction date.
How long depends on the return the record supports. The publication’s table of limitation periods:
| If you… | Keep records for |
|---|---|
| Owe additional tax, and none of the cases below applies | 3 years |
| Leave out income worth more than 25% of the gross income on the return | 6 years |
| Claim a loss from worthless securities or a bad debt deduction | 7 years |
| File a fraudulent return, or no return | Not limited |
| Have employees: employment tax records | At least 4 years after the tax is due or paid, whichever is later |
The years generally run from when the return was filed. Records about property you own, such as the truck or the trailer, are kept until the limitation period runs out for the year you sell or otherwise dispose of it. The publication also reminds you that an insurer or a lender may want records kept longer than the IRS does.
Any system works if it is kept
The IRS does not ask for a particular program. Its recordkeeping page says you “may choose any recordkeeping system suited to your business that clearly shows your income and expenses.” A spreadsheet and a folder of receipt photos qualify; so does bookkeeping software linked to the bank. What matters is that the business has its own accounts, every dollar in them is labeled, and the paper behind it can be found. With the categories clean, tax time becomes a matter of adding up, and What Can You Deduct? shows where each category lands on Schedule C.
General information, not legal or tax advice. Rules change and vary by state; check with the agency named above or a professional for your situation.