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  • Hazards for Business Beginners: The Disasters Are in the Details
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    Why You Should Never Mix Funds

    Mixing funds refers to the practice of using a single checking account for both business and personal uses, and is one of the most common tax mistakes among small business owners. Obviously, sole proprietors are most prone to this temptation. They reason, “It’s all my money, and I can distinguish between business and personal items, so why incur the extra expense of separate business checking and credit card accounts?”

    There’s a simple, three-letter answer to this question: IRS. If you don’t run your business in a standard, business-like manner, you run the risk of it being classified as a hobby. If the Internal Revenue Service disallows your small-business status, then none of your business expenses can be deducted. This may be quite a bit more expensive than the cost of maintaining separate accounts.

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    The key fact governing whether or not the IRS will acknowledge that your business is indeed a business, and not a hobby, is profitability. Here is the IRS publication that explains the criteria you’ll need to meet so that your expenses will be deductible.

    The quick answer is that you need to be consistently profitable—showing gains in three of the last five years. If you don’t meet that threshold, then the IRS may audit you to see if you “have the knowledge needed to carry on the activity as a successful business” or if you’ve “changed methods of operation to improve profitability.” Experts agree that keeping your business and personal accounts separate is often an important piece of evidence in your favor.