It's essential to keep business from becoming too personal when protecting your assets. Being "relaxed" with handling assets can lead to audits, investigations, missed opportunities for tax deductions, and other headaches. That's precisely why it's necessary to prioritize separating personal assets and business assets when organizing your finances. Achieving this starts with knowing the difference between the two. Take a look at how to split personal assets from business assets for a strong long-term financial plan.
What Are Personal Assets and Examples?
Assets are any belongings or valuables that hold economic value or benefit. When discussing personal assets, the term "asset" applies specifically to things holding present or future value owned by an individual or the household. Why is it important to have a tally of your personal assets? A person's net worth is calculated by subtracting all liabilities from their assets. That means removing the dollar amount tied to all you owe from the value of your assets.
What are some types of assets? Personal assets can range from very simple to very complicated. Some basic personal assets that almost everyone will possess at one time include cash, cash equivalents, savings accounts, checking accounts, treasury bills, and certificates of deposit. Another category of monetary assets that is separate from cash is personal investments. This includes a person's bonds, mutual funds, life insurance policies, stocks, pensions, IRAs, 401(k), and other retirement plans.
Tangible assets are also considered personal assets. This includes a home, property, land, and land containing any kind of permanent physical structure. Household items, vehicles, boats, jewelry, and collectibles all fall under the umbrella of being considered personal assets. This list of personal assets is far from exhaustive. However, it provides an idea of the scope of personal assets.
What Are Business Assets and Examples?
Business assets can be considered less straightforward than personal assets. The simple reason is that assessing the value of business assets can be trickier because some assets are evaluated based on their future potential value. Business assets are generally defined as items of value that sustain a company's growth and production. This category can cover everything from "intellectual assets" to actual machinery.
Examples of business assets include property, machinery, equipment, raw materials, inventory, patents, intellectual property, and royalties. Possessing many assets doesn't necessarily make a business "more successful." All business assets must be viewed in relation to a company's balance sheets. This means that a company's management of assets is judged based on the liabilities created by assets.
Categorizing your business assets can be much more complicated than categorizing personal assets because business assets are divided between current and fixed assets. A current asset is any asset that can be converted into cash within a fiscal year. This usually includes cash, liquid equity, inventory, and accounts receivable.
A fixed asset is a tangible long-term asset and often has lower liquidity. Some fixed assets include property, operating plants, vehicles, office furniture, and equipment. Fixed assets can also be intangible if they come from "intellectual" assets that cover brand names and licenses. Unlike current assets, fixed assets aren't expected to be quickly liquidated within a fiscal year.
How to Separate or Incorporate Both and the Effects of Doing So
Separating personal and business assets is often essential for reducing the risks of becoming personally liable for any claims for damages caused by your company's products, employees, or production means. When personal and business assets are tied together, you risk the loss of both personal and business assets. Separating your personal and business assets by treating a business as a separate and independent entity is the best way to do this. Here are the best ways to limit exposure:
- Get an employer identification number (EIN) from the IRS to avoid the need to attach your personal Social Security number to any of your business dealings.
- Establish your business entity type as either an LLC or corporation to formally establish your business as a separate legal entity with its own tax returns.
- Begin using a business credit card for all purchases related to the business. Do not use a card interchangeably for business and personal purchases.
- Open separate banking and investing accounts for the established business entity.
- Begin paying yourself a salary that confirms your role as an entity employee.
Properly separating business and personal assets isn't just about creating cleaner financial records that protect against audits, allow you to take advantage of tax deductions, and keep things organized. There's also another big reason to separate business and personal assets as early in establishing a business as possible. Investors want to see financial discipline. Intermingled finances without clear audit trails are red flags for investors.
Conclusion: Protecting Your Finances by Separating Personal and Business Assets
While it may seem like using the same accounts for your business finances and personal finances is the "easier" option, the truth is that doing this can create extra work for you. When it comes time to balance your books, you'll need to spend time separating all of your receipts. It's easy to get into hot water very quickly when business and personal assets are tied together. This is why it's recommended that owners of "small businesses" separate personal assets from business assets as early as possible.
The goal of separating assets is ultimately to reduce personal exposure to your business liabilities. When personal and business accounts are shared, anything that goes wrong with your business can cause severe damage to your credit score. If you're merging your business and personal assets after moving on from a business, don't forget the importance of doing an asset search for unclaimed assets to ensure that you don't miss a thing!