What are the risks with mixing personal and business spending?

It is normal for some business and personal spending to overlap, but issues can arise if the boundaries become too blurred.

While the money in both your business and personal bank accounts might be in your name, spending them as if they are the same can cause problems down the line.

By separating business and personal finances, you can avoid unnecessary tax risks and ensure there are no inconsistencies that might prompt an HMRC enquiry.

Does mixed spending have any tax implications?

A main reason mixing personal and business finances is bad practice is the tax implications it may lead to.

For an expense to be VAT deductible, it must be incurred exclusively for the purpose of the business.

Some expenses are likely to serve both personal and business interests, so occasional overlap might not always cause problems.

However, where businesses do make VAT claims, they can be harder to evidence if they originate from an account also used for personal expenditure.

For sole traders, the risk is that the money belongs to them, which might mean any drawings from business accounts are treated as profit in the eyes of HMRC.

Similarly, credit to a mixed sole trader account might be misconstrued as turnover, which can push individuals into higher tax brackets.

For limited companies, spending business funds on personal expenses can lead to money being converted into a Director’s Loan Account (DLA).

A DLA needs to be repaid within nine months and one day of a company’s year-end accounting date. If it isn’t, the outstanding balance might incur a 33.75 per cent tax penalty.

If the DLA was tax-free and amounted to more than £10,000 at any point during the tax year, you might need to pay Income Tax on the interest saved.

On top of Income Tax, the limited company would also need to pay Class 1A National Insurance, which is 15 per cent on the cash equivalent value of taxable benefits.

A few mixed transactions here and there might not immediately seem like a bad idea, but it can lead to serious tax issues later on.

How does HMRC view mixed spending?

Enquiries and compliance checks are becoming more frequent across the UK, as HMRC seeks to fill the estimated £59.2 billion tax gap.

Most of these checks are targeted at SMEs, who contribute to the largest share of the tax gap deficit, sitting at 70 per cent.

When HMRC decides it wants to investigate a business, it sends a notice of enquiry by post. Those on the receiving end of enquiries have 30 days to respond from the date printed.

If HMRC chooses to investigate your business, messy audit trails and mixed finances might make it harder for you to prove legitimate business costs and deposits.

Having a meagre 30 days to respond, you might find yourself scrambling to compile the evidence by the deadline.

Mixed spending doesn’t imply wrongdoing, but it can make it harder for you to prove expenses were for business purposes and unexpected income isn’t concealed profit.

Speak to an accountant – Streamline your finances

Opening separate accounts, one for personal use and one for your business, can provide clear and auditable records of income and expenditure.

If you have a track record of mixed spending, it might feel like an uphill battle trying to untangle bank statements.

By outsourcing this work to one of our accountants, we can go through your accounts and transactions in depth, classifying which relate to your business and which are personal.

Where costs overlap, our specialists can advise on what is a defensible and reasonable split, so any HMRC enquiries can be answered with a clear rationale.

Struggling with keeping your personal and business finances separate? Speak to one of our accountants for help with streamlining finances.