Normally when you work for an employer, you fill out your w-4 with your preferred exemptions, you provide your checking account information for direct deposit, and then you go about your business. Then between your manager, human resources, the accounting, and payroll department the rest gets handled. But, what if YOU'RE the employer; you work for yourself and you're unsure of how to manage your finances. Believe it or not, there are actually quite a few mistakes made by those who are in business for themselves. A few are:
Not having a functional system for organizing finances
Lack of a basic understanding of taxes and how they apply to your business
Not keeping up with expenses
Co-mingling business and personal funds
Not knowing when to enlist the help of a professional
It's impossible to teach you all you need to know about your setting up your business in one post. However, I'm going to go over some basic info.
Business Type
Before getting into the details of your business, you have to determine how your business is going to run. There are different types of business entities (Sole Proprietorship, Partnership, LLC, S-Corporation, Corporation, etc.) that you can choose from. Each business type operates differently in reference to liability, tax implications, pay structure, etc.
If you are a freelancer or creative entrepreneur, the most common business types to choose from are an LLC and Sole Proprietorship. Check out What's The Difference Between an LLC and Sole Proprietorship for an explanation of the two. I personally prefer to stay away from Sole proprietorships because under this entity, you and your business are seen as one. Mainly for liability purposes, I prefer for my business to be a separate legal entity.
One of the biggest reasons to make sure that your business is seen as a separate entity from you as a person is due to the protection that comes when you make a legal distinction (InvestorJunkie).
Take the time to understand which type is best for your business or enlist the help of a professional (attorney or accountant) to make sure that you get started on the right foot.
Separate Bank Accounts
Keeping your personal bank account separate from your business account is a key aspect to operating your business, whether it's a side hustle or full-time business. When the time comes to file taxes, you will be able to easily distinguish your business expenses which can help with determining the tax write-offs and deductions you qualify for. For certain business expenses, you will be required to provide support and it can get very messy if you haven't been keeping track.
Also, depending on the type of business you've selected, there are legal implications when co-mingling funds. For the sake of being organized, keeping good records, and being professional; don't mix the two. Lastly, if you've taken the step to open a Business account be sure not to use this account for personal purchases. It's important for the IRS to be able to see the difference.
Track Income and Expenses
Part of being an efficient owner is having a system in place so that the processes that keep your business running are doing so seamlessly. Tracking income and expenses is crucial to your business. By doing so you are able to tell how well your business is doing and in what areas you can improve. Having a complete picture also helps you to budget and create future financial plans. When starting out, business owners may choose to go the manual route, however we are in the day and age of technology and there quite a few apps and cloud accounting software that can help you streamline this process.
Create A Process
When you first start out it may seem like you can take on business tasks here and there. As you begin to grow, you will need to have a process in place so that your business runs smoothly. Your process will be specific as to how you work and the nature of your business. However, having one in place will reduce stress and help you to remain organized. Some things to think about:
When and how will you organize documents?
How will you send invoices? At what point will you follow-up on unpaid items?
How often will you read and follow-up on emails?
When will analytics be reviewed?
Will you sit with your accountant to go over your financial progress and areas for growth?
These are just a few general examples. Take a moment to breakdown your business and create a process that will help it run efficiently.
Set Aside Money for Taxes
Taxes usually give entrepreneurs the biggest headache. If you've made more than $400 in revenue within the year, the IRS sees you as a business and tax rules will apply. If you are working for yourself, taxes are not being deducted from the income you are earning.
For this reason, you may end up owing the IRS when you file taxes. In order to combat this, it's best to write off as much of your business expenses that you can and take advantage of any tax deductions you qualify for. Hence why it's important to track your income and expenses. It is highly recommended to incorporate taxes into your budget, estimate your taxes, and pay on a quarterly basis. Now there is a requirement which can be found in detail at Estimated Taxes. If you aren't familiar with taxes, it would be wise and less stressful to consider hiring a professional.
Organize Financial Documents
As a one stop shop for your business, you will have a lot of information at your fingertips such as receipts, invoices, contracts, bank records, tax returns, etc. I cannot stress enough how important it is to have a system of how you will organize your documents. The best way I have found to organize my documents are:
Expanding folder for paper copies of receipts
Steel File Cabinet (with key) for client files and vendor documents
Electronic folders of my desktop for soft copies of records
Label, color code, file tabs as needed
The specific documents that you keep will vary dependent on your business type. However, there are certain records that most if not all entrepreneurs have to keep. What does the IRS say? Check out What kind of records should I keep
When Is It Time To Enlist a Professional?
You may be wondering when is the best time to outsource certain areas of your business function. When it comes to your business finances, ask yourself these questions:
Are you spending too much time sorting out your finances?
Is accounting getting in the way of your creativity?
Are you familiar with taxes?
Is accounting a strong point for you?
Is it more valuable to spend time focusing on your business or on accounting?
If you find that your answers to these questions have creeped you out or you spent too much time pondering the answers, it may be time to let go of your financial headache and leave it to a professional so that you can get back to being creative. I can help relieve some of that by implementing a process for you to follow and manage day to day. Check HERE for services provided.
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