Some business operators do like to make life complicated. Not just for their accountants, but potentially for themselves. One way in particular is very common among small, owner-operated traders using the business as just another personal cash and bank account.

A look through a month’s worth of bank statements for their business account turns up all sorts of odd transactions: home mortgage and personal credit card direct debits; business rates and council tax charge payments; life assurance and pension payments; round-sum deposits every week that bear no discernible relationship to any recorded sales in those weeks.

The list goes on and on. They don’t see anything wrong with the practice, since it’s "our money" and "we’re just moving it between one pocket and another". All very reasonable at face value, but it’s not quite so simple in the real world.

For a start, if the business operates through a limited company, then it’s really not their money, but the company’s money. And that’s not just a technical distinction consider the common situation where there’s more than one shareholder in the business, even if there’s only one director running the show. Or the case of a partnership, even if one or more of the partners aren’t actively involved day-to-day. If you were that shareholder or partner you’d probably prefer to know that the funds going in and coming out of the business were all business-related transactions, not someone else’s personal ones.

All about allocation

Given enough time and information, a good book-keeper will try to allocate all of these payments and receipts correctly. It’s easier with the outgoings; there’s likely to be an external statement to explain what the payment is for, and therefore whether it’s a business item or not. The correct practice then is to allocate personal payments against a Director’s Loan Account (within a limited company) or as proprietor’s or partner’s drawings.

The receipts side is more complicated and has potentially more serious implications. It’s long been common for many small-business operators (not just in the petrol retail sector) to try and minimise business bank charges by using the plastic shopping bag banking method. They’ll take a bag full of cash home from the business every few days, bank some of it into their personal bank account, then write out a cheque once a week to deposit into the business account. Sometimes the amounts ’out’ and the cheques ’in’ are identical. Often they’re not and it’s not uncommon to see deposits of round sums of several thousand pounds going into the business account every week.

Yes, it might save some cash-counting and handling charges. But it’s poor business practice. That cash removed from the premises is almost certainly uninsured, for a start, and the additional banking delay doesn’t exactly help with the business’ cash flow. From the book-keeping and accounting point of view, all the money taken out of the business must be shown as either a loan to the director, or as personal drawings by a sole trader/partner. The deposits are then all treated as either a loan from the director, or as capital introduced by the sole trader/partner. The movements can’t be netted off against each other they have to be shown in the accounts as gross amounts in and out of the business.

Serious issues

However, there are more serious issues with this practice and these should make anyone think twice before continuing with it. Firstly, there’s the break in the audit trail. If you receive a routine compliance visit from HMRC (and these appear to be becoming more common again), one of the things they like to do is to compare your sales reports and VAT returns with what your business bank statement shows as money received. It’s just a simple, elementary check that your declared sales aren’t less than the cash going into your business account. Obviously if the amounts going into that account don’t match the sales at all, they’ll have to examine your personal account to try and reconcile the difference. Extra time for the VAT visit, even if you don’t mind the idea of them going through possibly several years’ worth of your personal bank statements. Of course, if the deposits are larger than your sales, then that begs the question of where this extra money is coming from and why it’s being put into the business?

Accountants themselves have to ask that question as part of the Anti Money Laundering (AML) legislation under which they all operate. Any amounts coming into the business that don’t correspond with trading funds have to be recorded with some explanation of where the money is from. If a business is so unprofitable that it can only continue with the owner pumping personal cash into it then the accountant has to question why that business is still trading. Beyond that, HMRC can ask the same questions and, unless the answers are very persuasive, they can trigger a full-scale investigation under both AML and Proceeds of Crime legislation.

Mixing personal and business funds can add a lot of time and cost to your book-keeping and accounting; it can delay production and submission of annual accounts because the accountants have to itemise all of the non-trading income and outgoings, and they have to ask for and note your explanations for those items. Where the amounts are substantial, or where the explanations don’t seem to add up, the accountants have to be conscious of their own statutory responsibilities. If you’ve ever wondered why your accountant asks you the same annoying questions every year about the source and reason for non-trading receipts, the answer is simple: they have to ask and they have to consider whether anyone else is likely to be asking them the same questions when the accounts are finally submitted. Much easier to avoid the problem in the first place: keep it simple; keep business and personal funds separate at all times.