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Why You Need a Separate Bank Account for Your Side Job

Banking, Banking Basics

Ridesharing, turning a home into a bed-and-breakfast, posting how-to videos, selling one’s art — these are easy to do today through the likes of Uber, Lyft, YouTube, Etsy, Airbnb and other online platforms that have created the “gig economy.”

Signing up is easy, but handling all the financial responsibilities can get challenging come tax season.

That’s why keeping personal and business finances apart is a must.

A separate bank account makes tax time easier

One of the first things to do when taking up a side job is to open a separate bank account specifically for it. Small businesses and sole proprietors often do this via a business checking account. With something that’s a little more freelance, you could simply open another standard checking account. The point is to create a system to track business and personal expenses separately.

There are many advantages to keeping your business and personal finances separate, but the most important one is that it helps simplify your tax-filing process.

Let’s explore the benefits of keeping a separate bank account:

  • It’s easier to track business expenses and deductions. An Etsy shop owner, for example, can monitor and deduct postage, shipping, materials, mileage for trips to the store and more. Keeping business-related expenses in one place makes it easier to visualize whether you’re spending more money than you’re earning.
  • You’re better prepared for an audit. In the event of an audit, a separate bank account provides clear evidence of your income and expenses.
  • It provides a solid foundation for your bookkeeping system. The IRS suggests reconciling your checking account every month to make sure that bank statements and record-keeping systems match. This is easier to do when you’re not sorting through your own personal expenses as well, and it can minimize human error.

Danielle Bruflodt of Madison, Wisconsin, started her Etsy shop, Thyme is Honey, as a side job five years ago. Today, she is self-employed with many businesses, and she uses separate bank accounts and software to stay organized.

“I’m horrible with numbers, so to be honest, having separate banking just makes everything so much easier,” Bruflodt says. “It becomes a pretty simple process of what is going in and what is going out. It’s also easier for me to see expenses for each business.”

» MORE: The difference between personal and business checking

Common mistakes in the gig economy

Opening a separate bank account for business needs is the ideal first step. A recent study by the Kogod Tax Center at American University suggests that there’s a bigger problem. The study found that 36% of people employed through online platforms in 2015 don’t understand the kind of records of business income and expenses they need for tax purposes.

“Usually, in the first year, people don’t realize what they need to do,” says Caroline Bruckner, author of the study and managing director at the Washington, D.C., university’s Kogod School of Business. “But after they go file their taxes, the next year they figure it out and start filing correctly.”

Veronica Smith doesn’t keep a separate account for her YouTube channel, VeroHoy, but she is still ahead of the curve. The Chino Hills, California, resident and her spouse rely on accounting software to track business income and expenses for their three enterprises: her Spanish-language YouTube channel and his real estate and web-based businesses.

Time Warner Cable salesman Jeremy Miller of Cincinnati drives for Uber in his spare time. For him, a spreadsheet is enough to track his mileage, income and hours.

Find a system that works for you, and stay on top of it from the beginning.

» MORE: What Uber, Lyft drivers need to know about ridesharing insurance

It’s never too late to start

Bruckner suggests creating a plan before starting a business through a “gig economy” platform. Figure out how much time you might spend and how much money you could earn, and research the tools that will help you keep track of business finances.

And, if you’re already running a business without a separate account or a record-keeping strategy in place, it’s never too late to get started.

Melissa Lambarena is a staff writer at NerdWallet, a personal finance website. Email: mlambarena@nerdwallet.com. Twitter: @LissaLambarena.