Putting personal money into a business can help you overcome working capital needs, but you could put yourself at unnecessary risk if you don’t do it correctly. You need to make sure you properly account for the money on your business books so you accurately track the amount your business either owes you or how much ownership you have.
When putting your personal money into a business you don’t want to co-mingle funds because it’ll make it harder to properly account for any personal money you put in your business. To prevent this, make sure you have a small business checking account to keep your business cash separate. Chase made our list as the top rated business bank account. They offer one of the most competitive fees structures, unlimited cash deposits, and you can open an account with a minimum of $25. Plus, first-time Chase Total Business Checking account holders are being offered up to a $200 bonus.
The 8 steps to putting personal money into a business are:
1. Make Sure You Have Separate Bank Accounts
One of the most important things to do as a small business owner is to separate your business and personal accounts. Having a legal entity for your business, like an LLC, protects you from liability and the decisions you make in your business. Combining your personal and business financials can take that protection away and cost you dearly later.
If don’t currently have a separate business checking account then you should open one right away. You should be able to open an account at the same bank you do your personal checking, but you can also read our article on the best business checking accounts to find one that’s right for you. This will help you account for and track the personal money you put in your business. After reviewing top bank account providers out there, we found Chase to offer the best. And right now new Chase Total Business Checking account customers can get up to a $200 bonus.
2. Fund Your Business Bank Account
In order to have a transaction to record, there needs to be money flowing from your personal account to the business’s account. Make sure you fund the full amount the business needs (or that you want to invest) so that you don’t have to go through the accounting process multiple times unnecessarily.
Having a separate business account makes it really easy to track your personal money. For example, you’ll have two transactions – a withdrawal from your personal account and a deposit for the same amount in your business account. This makes it easier to properly record the transaction(s) on your books.
3. Record Your Money as Either a Loan or as Equity
When you’re putting your own money into your business you’ll either book it as equity or as a loan. Most business owners book this transaction as a contribution – or as equity in the business – which is the process we’ll cover in this article. That means that the business doesn’t owe you anything and instead you’re making an investment in the future success of the business in return for owner’s equity.
The way you record your transaction will determine the accounting process and how you receive money back from the business later. It’s important that you take the necessary steps to properly record every transaction between the business and your personal accounts, so that you keep the legal protections discussed in the first step. For more information on recording money as a loan or equity, jump to our section below.
4. Debit the Cash Account
The first accounting step (and the fourth step overall) is to make sure you create a journal entry that properly debits the amount of money you placed into your business checking account. This will show an increase in your current asset account, and you can’t properly record it anywhere else.
5. Credit the Capital Account
If you’re a sole proprietor, then take the same journal entry that you made as a debit, and make sure the same amount is credited to your capital account. If you’re a corporation then the accounting for this step is a bit different. You will instead credit the common stock account by the amount you debited.
Your capital account or common stock account, depending on the type of business structure you have, is an equity account. Your equity account operates differently than an asset account for accounting purposes because when you place a credit into the account the value actually increases. This ensures your Balance Sheet remain in balance
6. Add the Amount of the Deposit to Your Cash Balance
Step three will likely be done for you if you have the right accounting software, but you should double check to make sure that it is done correctly. You need to add the amount of your deposit to the previous cash balance in your books. That new balance then becomes a new line item on your balance sheet, or the amount will change in your current balance sheet. Your cash balance on the balance sheet falls under the “assets” section.
7. Add the Amount of the Deposit to Your Previous Account Balance
This step involves adding your deposited amount to your previous capital account balance or common stock balance. This is another step that should be done for you if you have a decent accounting software. Again, check to make sure it shows up on your balance sheet properly after you’ve made your initial journal entries.
8. Report New Capital Account Balance as Owner’s Equity
This is the step you’re likely most interested in as the person putting money into the business if you’re also interested in taking it out at some point in the future. You need to either:
- Report the new capital account balance on your balance sheet under “owner’s equity”
- Report your new common stock account balance on your balance sheet under “stockholders’ equity”
There should be a total balance that shows up on the balance sheet, but there should also be a breakdown of equity by owner in your accounting software or in the more detailed sections of your financial reporting.
Things to Consider When Putting Personal Money Into a Business
Putting personal money into a business isn’t difficult, but if you’re not experienced in the process then it’s fairly easy to make a mistake that could cost you. You need to make sure you take the advice of experts into account before moving any money so that you don’t end up hurting your financials or your taxes later.
Here are 4 things you should consider before putting personal money into a business:
1. The Risks of Using Personal Assets
Howard Rosen, an experienced CPA and president of business consulting firm Conner Ash P.C., says the first thing he asks clients who are planning to fund their businesses with personal money is: Can you afford to lose it?
Although most people go into business thinking for certain that they will succeed, about half of new businesses fail in their first five years. Rosen cautions borrowers to be realistic about their chances for business success given the industry that they’re in and existing competition. If the business folds, the owner can lose their life savings, retirement funds, or other personal assets that they’ve put into the business.
Rosen also advises business owners to think carefully about how much money they will need to get off the ground successfully, and for working capital going forward. You want to ensure that you put enough money into your business but also hold onto enough personal assets in case something goes wrong.
2. Carefully Choose Your Business’s Legal Structure
A business can be organized as a C or S corporation, LLC, partnership, or sole proprietorship. Most businesses start out as a sole proprietorship or partnership and later re-organize as an LLC or a corporation as they grow bigger. The advantage of LLCs and corporations is that they protect the business owner from personal liability for the debts and obligations of the business.
It’s more difficult to put personal money into a C or S corporation because of the formalities that need to be followed. For example, if you invest money into a corporation you must issue shares and record the transaction in corporate ledgers. In addition, taking personal investments out of a C corporation is treated as a taxable dividend.
Personal money is a lot easier to move in and out of a sole proprietorship, LLC, or partnership. In particular, LLCs offer almost as much legal protection as a corporation, but it’s a lot easier to transfer money in and out of an LLC. You can visit Rocket Lawyer if you need help transitioning your business to an LLC.
3. Whether to Record the Money as Equity or a Loan
Personal money going into a business can be treated as equity (i.e. an investment) or as a loan that must be paid back by the business. In general, if you are organized as an LLC, sole proprietorship, or partnership, it’s best to invest personal money and increase your equity in the business. This is because equity makes for a stronger balance sheet than a loan. Banks and vendors prefer to work with businesses that have more equity than loans.
Banks in particular want to make sure they get paid first in the event of a default, so they don’t like seeing other loans on your balance sheet. Additionally, if you loan your business money then you must charge it interest and pay personal taxes on the interest you earn.
Equity investments in a business are not taxable unless there is revenue or sales of some kind. If you put your personal savings into your business, for example, the business won’t treat the investment as income. That is simply an owner investing in the company and the taxes owed by the business won’t be changed by your investment. In return, you increase your owner’s equity.
If you put personal money into a corporation, you may want to consider treating it as a loan instead of as equity. If you invest money into a C corporation as equity, it’s impossible to get it back without taxation because taking the investment out of the corporation is treated as a taxable dividend.
4. Separate Funds and Keep a Paper Trail
After you’ve decided whether to treat personal funds as an equity or as a loan, the final step is to transfer the funds to your business checking account and to document the transfer in your business’ accounting records. If you later take funds out to give yourself a salary or for other personal uses then that will need to be fully documented as well so that your balance sheet is accurate.
If you’re putting an equity investment in a corporation, ensure that you follow all corporate formalities in terms of issuing shares and recording the transaction in the corporate ledgers.
If you treat funds as a loan, you should document the loan in a promissory note. A promissory note is a legal document that authorizes the business to borrow from the individual.
Chase makes it easy to get your paper trail started off on the right foot. Their business checking account is a great option for small business owners. They have low fees, one of the best ATM/branch networks in the nation, there are no limitations on monthly cash deposits (like many business checking accounts), and they integrate with popular accounting software like QuickBooks.
How Putting Personal Money Into a Business Impacts Your Taxes
When you put your personal money into a business it is booked in two ways, either as a contribution or as a loan. Neither method will allow you to take your investment as a deduction on your personal taxes immediately, so there should be little impact come tax season. The reason that you’ll need to make sure it’s properly booked is the tax advantages you may incur when you’re either paid interest on your loan or sell your ownership in the business.
Structuring Your Investment as a Loan
If you’re loaning your business the money then you’ll need to make sure you have the proper paperwork drafted to acknowledge what the business owes you and how they’ll repay the loan. The business will need to make regular payments and you’ll have to charge at least a nominal amount of interest in order to make the transaction legal and to fill out your personal taxes correctly. Any interest payments will show up on your personal taxes as income.
Loans have a tax benefit, for the business, that a contribution doesn’t have. Interest on a loan is considered a business expense, which reduces the business’s taxable income. However, if you loan money to your business from your own savings, the interest that’s deducted on your business return or Schedule C (for sole proprietors) must be reported as income on your personal tax return, so there’s no personal tax benefit.
Making a Contribution
If you’re making a contribution to your business as an investment then you just need to make sure the business properly accounts for your money in this way. This is to ensure that you’re properly compensated if the business sells, you cash out your ownership, or in case the business pays dividends to its owners. Any money you receive due to your ownership will be reported on your personal tax return as income.
6 Ways to Invest Personal Money into a Business
Personal money is money that you have, receive, or borrow as an individual rather than under your business’s name. The best funding option using personal money will be heavily influenced by what resources you have, your family and network, and your credit score.
Making a quick list of your assets, liabilities, income, likely investors, and checking your current credit score will help you decide what funding options are most viable. Use our Assets and Liabilities Worksheet to properly inventory your assets, liabilities, and income.
If you are planning to invest personal money into a business, one way to set yourself up for success is to make sure your personal and business bank accounts are separate from the start. This makes things way easier when reporting taxes and running reports. If you are ready to get started, check out Chase. Their business checking account has low fees, one of the best ATM/branch networks in the nation, and allows unlimited monthly cash deposits.
Putting Personal Money into a Business Options at a Glance
|ROBS||Individuals wanting to use $50k+ in a personal retirement account without paying penalties or taxes.|
|Consumer Credit Cards||Revolving credit amounts up to $20k and rates between 12 - 29%.|
|Personal Loans||Individuals with a strong credit profile needing up to $50k for a new business that can’t get business financing.|
|Home Equity Line of Credit (HELOC)||Individuals with 30%+ of equity in their personal home willing to use it as collateral to put money into their business.|
|Friends and Family Loans||Anyone with access to high net worth individuals and are struggling to find funds elsewhere.|
|Cash Savings||Individuals with a large amount of money that’s “liquid” and ready to be invested.|
1. Using a Retirement Account to Fund Your Business (ROBS)
Some people invest funds from their 401(k), IRA, or another retirement account into their business. A Rollover for Business Startups (ROBS) allows you to do so without the penalties and taxes that accompany an early withdrawal. It’s a good way to start a new business, buy an existing business, or recapitalize a business.
One thing people love about using ROBS for new businesses is that you don’t start your business off in the hole. A ROBS is not a loan, which means there is no big monthly payment that needs to be made immediately. It’s a good way to get funding into your business without burdening it with debt.
Note: There are multiple tax and legal issues associated with a ROBS, so we encourage you to use a specialized ROBS adviser, like Guidant, who will help you set up this type of funding.
- It’s not a loan (no qualifying with credit scores and collateral)
- It’s not debt (no APRs, maturity dates, or big monthly payments).
- No penalties or taxes for early withdrawal
- Can pay yourself a salary
- If the business succeeds, profits can grow in a tax advantaged retirement account
- Need to have $50K or more saved up in your retirement account
- You’re risking a portion of your retirement funds
- Must be a full time employee of company (no passive ownership)
- Could increase your chances of an audit from the IRS or Department of Labor (but a provider like Guidant will help you, if it happens).
Our recommended ROBS provider has helped over 11,000 small business owners use their retirement accounts to invest over $3 Billion into their startups. Sign up for a free 1-on-1 consultation to learn more.
2. Using Consumer Credit Cards to Fund Your Business
Consumer credit cards can actually be relatively inexpensive, fast ways to get funding. As an added bonus, you may benefit from a promotional APR or from rewards programs.You can often borrow as either an individual or a business, but with a newer business you personally will likely have to guarantee the debt.
- Relatively inexpensive with rates ranging from 8-24%
- Since it’s a line of credit, you only pay interest on revolving balances
- Many cards let you earn rewards such as points or cash back on purchases
- Can help build your business and personal credit score
- Need good credit to qualify for a good card (check your credit score for free here)
- Some things can’t be paid for with a credit card (like payroll)
However, if you’re looking for a business credit card that offers you a high degree of flexibility plus great rates and rewards, we recommend the Chase Ink Business Credit Cards. Choose between excellent cash back offers and travel rewards. You can apply online in minutes and get approved instantly.
3. Using Personal Loans to Fund Your Business
Many traditional lenders will not give new businesses loans, at least not without a substantial amount of collateral, which leads many newer businesses to rely on personal loans instead. Personal loans can be obtained from your local bank or from an online lender such as Lending Club. They are a good choice when you’re starting out in business or if you need a small loan quickly.
- Can be used to fund a startup or low-revenue business
- Faster and less paperwork than getting a business loan
- No collateral needed
- Competitive rates and terms
- Need good credit to qualify (check your credit score for free here)
- Loan amounts capped (up to $40,000 from Lending Club)
Lending Club offers personal loans up to $40k that can be used in your small business. You may qualify if you have been in business for 2+ years, have $75k+ in annual business revenue, and a 650+ credit score. Apply online within a few minutes and you could be funded within 1 week.
4. Using Equity in Your Property to Fund Your Business
Home equity loans (HEL) or home equity lines of credit (HELOC) are options that work well for those business owners who are short on cash but have lots of equity in their personal real estate. They typically offer some of the lowest rates of any financing option and you could get funded within a few weeks.
- Popular way to fund startups and existing businesses
- Very low interest rates (2.5-8 % APR on average)
- Rates could be adjustable and/or require refinancing quickly
- If you fall behind in payments, you could lose your home
For those considering using their property’s equity to fund a startup, take a look at LendingTree. Their online marketplace has a large number of lenders allowing you to compare rates, offers, and find a good fit. Seeing your options takes just a few minutes.
5. Using Loans from Family and Friends to Fund Your Business
Family and friends can be a great resource for small business owners trying to borrow money. They can invest in the business in exchange for an ownership share (equity), or they can loan money to the business like any other lender. You’ll need access to high net worth individuals who really believe in your business plan.
- No credit and collateral requirements
- Typically inexpensive (average APRs around 5-8%, no closing costs or fees)
- Speed in funding
- Inability to repay the loan could hurt relationships
- Unsolicited business advice from “investors”, even if you don’t give up equity
- Those with equity are legally entitled to some control over the business
6. Using Cash Savings to Fund Your Business
If you’ve set aside money in a savings account or investment portfolio you have the options of financing your business without any debt. You could also choose to loan the business money yourself, but making an equity contribution in your own business is always the preferred method to maximize the value of your investment.
- No creditors to repay and no interest owed
- Complete control over how you use the money and run the business
- Potential for liquidity issues
- Not leveraging your savings
A Final Word of Caution
Many small business owners operate freely without caring about how their personal funds and business funds are mixed together. This is especially common during startup mode. This is a very big risk that could hurt your business in the future, or could put your personal assets at an unintended risk.
Lee Reams, CEO of ClientWhys, says:
“Mixing business income and expenses with personal income and expenses can only lead to accounting confusion and mistakes, as well as create a lot of suspicion should your business be audited by the IRS or a state tax agency. Never pay personal expenses from the business account and always deposit business income in the business account, never in your personal account.
If you incur expenses personally that are business expenses, detail them and reimburse yourself from the business checking account. If your business is operated as a corporation or partnership, be sure that the company’s reimbursement policy that entitles you to reimbursement for these expenses is included in the corporation’s board meeting minutes or the partnership agreement.”
These are great tips to live by if you’re looking to put money into your business, or if you’re looking to take it out for any reason at all, even for a legitimate business purpose. If you mix personal and business assets a court could “pierce the veil,” meaning that it can hold you personally liable for the business’ debts and legal obligations. You want to always make sure your interests are protected and that your money is properly accounted for as equity you’ve established in your business.
Bottom Line: Putting Personal Money Into a Business
Most entrepreneurs rely on personal funds to finance their businesses when they’re starting out. It’s important to weigh the risks of putting personal money into a business and to have a plan B in case things don’t work out. Learning how to invest in a business isn’t complicated, but you need to do it correctly so consulting a legal or tax professional as needed is a good idea.
While normally you can’t touch retirement money without getting slammed by early withdrawal penalties and taxes, setting up a rollover for business startups (ROBS) avoids all of that. If you have more than $50k in a retirement account, speak to a ROBS professional at Guidant for free about how you start or buy a business using your 401k or other retirement accounts.