There are many tasks that new businesses must complete with opening a business bank account being one of the top priorities. It’s important to know how to open a business bank account as this tool will help businesses organize their finances. In fact, one of the most common mistakes fledgling entrepreneurs make is not being organized with their business banking processes, which can have serious consequences down the road. For example, failing to properly categorize business income/expenses could result in the owner having to pay unnecessary taxes, inadvertently break tax code regulations, and even increase the risk of an IRS audit. This guide will break down common business account features, mistakes to avoid, important resources and even tips for opening a business account for different incorporation structures like LLCs or S corps.
Why open a business bank account?
Top-notch accounting software like Quickbooks can allow business owners to categorize expenses with the press of a button. For example, they can put expenses into categories like meals, supplies, contract labor, health insurance premiums and more. Also, business owners can link their credit cards and swipe each income or expense line item as business or personal.
With this technology, some small business owners are asking themselves, “why even open a business bank account?” There are three main reasons to establish an account like:
1. Protection from lawsuits
Commingling business and personal financials can lead to disaster, especially if the business owner is being sued. Since over 100 million business lawsuit cases are filed each year, it makes sense to take this simple step which prevents putting personal assets in jeopardy. In addition, lawsuits are expensive with some common expenses like lawyer fees, court filing fees, discovery and documents fees adding up prior to the trial. One of the best ways to prevent a lawsuit is to have organized records and creating business structures like LLCs and corporations which can also protect personal assets from lawsuits.
2. Higher credibility
The last thing a new entrepreneur wants to do is look like an amateur to prospective clients, partners, and vendors. Therefore, opening a business bank account is the first step to adding credibility. Besides this, business owners can write and receive checks from this account. The IRS also favors this type of account as it can be seen that tax payments came from a real business, which makes it less likely to see it as a hobby.
In fact, hobby loss rules are a tax gray area, which states that an overall loss from hobby activity can’t be deducted against ordinary income. There are 9 hobby loss tests that a business must pass in order to deduct the loss against other sources of income. One of the most important tests a business must pass to have a business instead of a hobby is to maintain accurate books and records.
3. More tax-efficient
Related to reason #2, having a business bank account makes it easier to be more efficient around tax deadlines. Business owners have many tax deadlines like filing estimated payments, FUTA tax and paying income taxes at the end of the year. This account will make it easier to deduct qualified business expenses from income and organize important financial documents like the income statement and balance sheet.
Also, businesses that choose an incorporation structure like a C corp or S corp must have a business bank account. Regardless of business structure, businesses that have a separate account will have a much easier process in case they’re audited by the IRS. Those that commingle business and personal information will have a tougher time should they be audited.
What to look for in a business account
No business bank account is the same, and there are many factors like customer service, costs, technology, and additional services.
1. Customer service
Customer service is the backbone of any industry and can either make or break a business. Therefore, use a site like Yelp, Trustpilot and word of mouth from associates to decide between providers when learning how to open a business bank account. It’s wise to work with a provider that has quick service, knowledgeable representatives and transparent terms. Also, small business owners could start by asking about options at the bank they currently work with for their personal banking needs.
Nothing in life is free, especially business bank accounts that have fees like service fees, maintenance fees, transfer fees, minimum balance fees, ATM and wire transfer fees. These charges can add up, but many banks can waive fees if the business owner has the minimum balance or doesn’t have excessive transactions. For example, transaction fees are usually assessed for businesses that have over 200 transactions per month and can range around $0.50 per transaction. It’s also prudent to be aware of ATM fees for out of network ATMs. Luckily, most banks don’t charge ATM fees for in-network ATMs. However, out of network ATM fees can range from $2-5, which can accumulate over time.
FinTech is greatly impacting small businesses, financial services and can make it much easier to conduct business activities. As mentioned earlier, there is a plethora of online accounting/tax software that makes organizing business books much easier. Thus, business owners should check with their banks if their tax software integrates with the bank’s online platform. Related to this, it would be wise to work with banks that have progressive features like mobile apps and online bill payment.
4. Additional services
Most businesses need additional services beyond bank accounts which can range from credit cards, lines of credit and small business loans. Using a provider that has these services can make it easier to expand a small business and keep its finances organized simultaneously. For example, banks like the Bank of America offer perks like a $450 sign up bonus and rewards like points that can be used for travel as well as other expenditures. Be sure to analyze the fine print for requirements like minimum balances, point value, and monthly transactions to obtain these benefits.
Considering these four factors will make it easier for small business owners to choose financial institutions that meet their unique business needs.
Bank vs. credit union business accounts
Banks and credit unions both offer business checking and savings accounts to small business owners. These institutions have many similarities, with their main difference being that banks are for-profit and credit unions are non-profit. Most large banks are publicly traded and want to deliver a high ROI for their shareholders. Conversely, credit unions are partially owned by each member and their goal is to provide each owner with a credit source.
Each institution type has many different pros and cons when using each one for a business account.
A wider variety of services to meet business needs. Many banks are publicly traded, have high revenue and can offer many services. They have the most necessary financial products from loans, lines of credit, checking accounts, business accounts, and even brokerage accounts. Related to this, most banks have generous rewards programs like sign up bonuses, points, and other reward perks.
More accessibility. Most credit unions are usually located in one central region, while banks have branches and ATMs throughout the world. This can make it easier to do business regardless of location.
Higher fees. As for-profit institutions, banks must generate a return for their investors. Therefore, they’d charge higher fees on loans, bank accounts, and ATMs. Some unscrupulous banks have even put in hidden fees in contracts to unsuspecting borrowers. Others like Wells Fargo, have excessively emphasized sales in the past at the expense of their customers.
Lower interest rates for consumers. Related to the above point, banks can give their clients pitiful interest rates. For example, many banks only provide savings accounts with a 0.001% interest rate. They also have relatively low rates for Certificates of Deposit or CDs which range from 2-3%. This might sound better than a savings account, but CDs lock up money for years and 3% is just breaking even with inflation at best.
More flexible. Since Credit Unions aren’t held to shareholder expectations, they have more flexibility with approvals. Therefore, a credit union could be a good choice for a small business that doesn’t have established credit or is just starting out. Credit unions look at other factors like industry outlook, business plans, and business revenue when approving people for business loans. Also, most credit unions have lower fees for their business checking, savings and CD accounts.
Better customer service. Many small business owners report stuffy environments when they walk into a bank. From the excessively formal dress to regulations; banks can seem very robotic. On the other hand, credit unions have a more laid back vibe with transparent reps that provide quick service. Credit unions usually score higher on customer feedback surveys than large banks due to these factors.
Basic services. Credit unions might have better customer service, but they may not offer the perks that large banks do. For example, many credit unions don’t have cards with lucrative point systems along with generous sign-up bonuses. They also might not provide access to other accounts like investment accounts, CDs and more. If a small business owner conducts international transactions, he or she might be better off using a bank that can assist with these needs.
Fewer locations. Credit unions have fewer locations than banks and are usually just located in one regional area. For instance, the San Diego Credit Union mainly operates in Southern California while the Pacific NW Federal Credit Union emphasizes Oregon and Washington. This may be a deal-breaker if the small business owner travels frequently for work.
Mistakes to avoid when opening a business account
Small business owners can utilize many choices when opening a business bank account, but they must be aware of key setup mistakes to avoid.
1. Using the wrong bank or credit union
No bank or credit union is perfect, so it’s wise to evaluate the pros and cons of establishing a business account at each one. More established financial institutions are relatively stable and every one offers its users FDIC protection on up to $250,000 of assets. Newer options might not be FDIC insured, which poses a risk to small business owners. Also, assets over this threshold aren’t protected by the FDIC and can be used to pay off creditors should the bank fails. This scenario is unlikely, but it’s better to be prepared than not.
2. Having missing or incorrect application information
Banks and credit unions require different documents when creating a business bank account. Therefore, it’s wise to thoroughly check the prospective financial institution’s requirements prior to filling out an application. Also, requirements can vary based on incorporation type and if it’s an online-only institution. In addition, be sure to thoroughly complete the paperwork as minor mistakes like misspelling a business name could result in unnecessary delays or even denials. Regardless of the business and institution, most places require a Social Security Number and tax ID, or EIN to open an account.
3. Not factoring in the monthly balance
As mentioned earlier, most larger banks and some credit unions have minimum monthly balance requirements. Failing to maintain these will result in fees and penalties. Thus, it’s smart to check with each financial institution regarding this rule. Also, some places like credit unions can offer forgiveness for one-off overdrafts and going below the minimum balance.
4. Not considering other services
It’s easier to be organized if a small business owner’s finances are in one place, which is why he or she should learn about other services like loans or lines of credit. This will also allow him or her to establish a positive relationship with the financial institution, which can be beneficial long term. Some larger banks make it very hard for entrepreneurs to obtain financing. Therefore, some entrepreneurs could be better suited to using a credit union that has flexible approvals.
Bank accounts for different business structures
The next half of this guide will discuss how to open a business bank account for business owners that are doing business as an LLC, Partnership, S Corp or C Corp. These structures have different impacts on business needs and banks have different regulations for each one.
Bank accounts for LLCs
An LLC or Limited Liability Company is different from a sole proprietorship as it’s a separate entity from its owner. This feature protects the LLC owner’s personal assets from creditors or lawsuits. Like other business structures such as partnerships, LLCs are taxed as “pass-through entities” meaning the LLC itself isn’t taxed on a federal level. However, the LLC’s income and expenses flow to the owners, who then report that information on their tax return. Also, some states like California can tax LLCs directly.
There are many options that LLC owners can use to open a business account, but Chase bank’s total business checking account has received many positive reviews. This account has many perks that would be great for smaller LLCs like a $200 sign up bonus, no initial opening balance requirements, a low monthly fee of just $15 and a relatively low minimum balance of $1,500. Other providers have much higher minimum balances and monthly fees, which are cost-prohibitive for newer LLCs.
Also, Chase could be a good provider as it has many options like loans and business credit cards, which are useful for growing businesses. For example, the Business Ink Preferred card offers an initial 80,000 point bonus and the opportunity to earn 1 to 3 points per dollar spent. These points can potentially give the business owner the chance to make additional money which can be used on business expenses or other perks like travel.
Fees can vary per provider, but many places generally have a monthly fee between $10 to $30, transaction fees, cash deposit fees, and minimum balances. Most financial institutions give the LLC owner 200 fee-free transactions per month before assessing a transaction fee around $0.50 per additional one above this threshold. Fortunately, monthly fees can be waived if the account balance is above a certain standard which is around $5,000 as seen with Bank of America’s business checking account. Other providers assess deposit fees, meaning that they charge the business owner for additional deposits over a specific balance like $7,000. A hypothetical example of this would be an additional $0.50 charge for each $100 over a preset threshold.
Different banks have their own standards for LLC requirements, but they all usually require the following:
- The business owners must first establish the LLC which means paying the state fees and filing the paperwork on time. Without this, the LLC isn’t in good standing and a business bank account can’t be opened. Besides upholding these standards, LLC owners must also have an LLC operating agreement, which outlines each member’s responsibilities, division of profits, and other fundamental information. LLC operating agreements usually contain addresses, the business name, places of operation, and the business’s purpose.
- Federal EIN or employer identification number, which identifies the business to the government. It’s also needed if the business wants to hire employees.
- Articles of organization, which are similar to the operating agreement. Yet, it’s not usually filed with the states and only includes high-level information like data about the registered agent and each member’s contact information.
- Some other required documents include business permits like seller’s permits and other business licenses. Many banks require certain industries like retail stores or eCommerce businesses to bring their seller’s permits prior to opening an account.
Partnerships are different from LLCs as they aren’t separate entities from the business owners. Therefore, a general partner’s personal assets could be seized by creditors or in the case of a lawsuit. General partners manage the business, while limited partners fund the partnership for investment returns. Limited partners don’t actively manage the business, so their personal assets aren’t at risk. Instead, the highest amount they could lose is their initial investment. Like LLCs, partnerships are taxed the same way as “pass-through entities.”
There are many business bank account options for partnerships including online banks. The Axos Basic Business account could be a great fit for partnership business bank accounts. It can be especially excellent for those that have partners that operate in different locations. With the rise of the internet, many business partners can work in different states or even across the globe. Due to this, the partners can open a joint account without visiting a branch.
The Bank of America Business Fundamentals checking account could be great for partnerships that have many cash transactions. For instance, this account lets partnerships waive fees like the $18 monthly fee, provided they spend $250 on their BOA credit card per month. This threshold is fairly easy to achieve, especially if the partnership has employees.
Like LLC accounts, partnership accounts have similar fees like monthly maintenance fees, transaction fees, cash balance fees, and minimum balance fees. Yet, partnerships can utilize online institutions like Axos to establish business bank accounts with minimal fees. Online banks and credit unions have little overhead, meaning they can reduce fees, and offer higher interest rates on savings accounts. Axos has these traits and has benefits like ATM reimbursement and no minimum account balance. They also give each business owner 200 fee-free transactions per month, which is good for those that don’t have frequent cash transactions.
Some general partnership bank account requirements include but aren’t limited to:
- The partnership’s EIN and articles of partnership. Like LLC operating agreements, articles of partnership detail fundamental business conditions, which are usually defining limited vs. general partners, and the allocation of the business’s profits along with expenses.
- Identification of each general partner, which could include a driver’s license. Many partnerships usually have 2 general partners which run the operations and have a joint bank account. Therefore, the financial institution would need each general partner’s identification.
While it’s not an official requirement, be sure to be transparent and thoroughly trust the joint partner on the account. Joint accounts give each partner on the account equal access, which requires each partner to be financially savvy and a good communicator.
Bank accounts for S Corps
S Corp overview
S corps can be seen as a hybrid between C corps and partnerships since they’re corporations that are taxed a “pass-through entities.” The S corporation is separate from the business owners but can issue stock like a corporation. Despite this, S corporations need to have 100 or fewer shareholders to maintain this status. Companies that want to go public or have an IPO and wish to receive funding from more than 100 shareholders would be better off with a C corp.
While there isn’t a specific bank or credit union that primarily caters to an S corp, work with one that has low transaction fees, small monthly fees, and even minimal required balances. If an S corp owner has employees, he or she should consider opening multiple accounts, with one being used to deposit the amount for withheld taxes. Also, S corps that collect sales tax from its customers should deposit these funds in this separate account. Fortunately, many financial institutions can offer deals for S corp owners that have multiple business accounts like points, sign up bonuses, debit card deals and waived fees.
Many of the financial institution fees are similar for S corps as well. However, it’s important to be aware of the main two ways to take funds from an S corp, which are for salaries and distributions. Salaries are for employees and are used to pay both employees and employers, while distributions are given to shareholders. Some common examples of distributions are dividends and reductions in cost basis. Some S corp owners are tempted to intentionally not pay FICA tax by mislabeling funds as distributions. This could save them on FICA tax, but it’s best to err on the side of caution as the IRS is cracking down on this practice.
Some typical standards for S corps that want to open a business bank account are:
- Filing articles of incorporation with the state and electing S corp status. It’s important to be updated on paperwork along with payment deadlines as S corps that don’t do this won’t be eligible for a business bank account.
- S corp EIN or employer identification number
- Specific business permits, which could include satisfactory sanitation permits. Sanitation permits are very important for businesses that handle food, like local restaurants.
- Articles of incorporation, which are similar to a corporate charter. The articles of incorporation are similar to the LLC operating agreement. Some main items that these articles outline are the corporate bylaws and statutes in which the state is filed. This document also defines major officers of the business, each shareholder’s stake, business objectives, and important contact information.
- The corporate resolution for the bank account. There are corporate resolutions for many business decisions that were made by the shareholders or board of directors during a meeting. Yet, there is a corporate resolution that is specifically important for banking decisions. This document outlines who will be able to conduct certain banking tasks like check writing, taking withdrawals, or borrowing money from the account.
Bank accounts for C Corps
C Corp overview
As with an S Corp, a C corp is a corporation and is a separate entity from the business owners. However, its main difference from an S corp is that it’s double-taxed, meaning that both the corporation and the shareholders will pay taxes on any income. This is different from “flow-through entities” that just have the members being taxed. While this is one of its major drawbacks, C Corps can be a good choice for firms that want to sell their stock on public markets. It doesn’t have limits on the number of shareholders and it can be a good choice for companies that have received large amounts of funding.
Most banks can help business owners that have a C Corp. However, it’s wise to consider options like the Capital One Business Bank account. This could be one of the better options for larger businesses as it has unlimited transactions, no minimum balance or maintenance fees. It also has over 38,000 ATMs in the United States, which makes it convenient to do banking.
Besides these features, Capital One also has an escrow account that holds funds for real estate and other legal transactions. For example, it lets property managers hold tenant security deposits and this account can be helpful for law firms that manage their clients’ money. Having this feature can make the escrow process more organized, efficient and less prone to errors.
Bank accounts for C Corps have many of the standard fees that other options on this list have. However, C Corps are more complex to establish, meaning that they’re subject to more fees like franchise taxes. Therefore, be sure to check the relevant state’s requirements for establishing a C Corp. Also, since C Corps are usually larger businesses, it might make sense to inquire about deals for transaction fees over a specific threshold. If the C corp is doing a large volume of business per month, the owners could ask the bank for reduced, volume-based pricing.
Like most of the entities discussed here, C corp owners that want to learn how to open a business bank account should have the following:
- Employer identification number (EIN)
- Articles of Incorporation
- A corporate resolution that precisely delegates banking tasks to specific corporation members
- A corporate charter. This is similar to the Articles of incorporation but is required if the articles of incorporation lack sufficient details.
- Tax-exempt corporations like 501(c) nonprofits need to have their 501(c) letter from the IRS. Many nonprofit organizations like schools and religious firms can file for this status if they meet specific IRS tests.
Besides having these important business pieces of information, the C corp must be in good standing with the state. C corps can do this by timely filing paperwork and paying the state on deadlines.
- Starting a business can be daunting as there is much to do with knowing how to open a business bank account being one of the more important tasks.
- Taking this simple step can differentiate small business owners from the ones that don’t do this which would set them up for success.
- They can use this account to be more organized and run their businesses more efficiently.
- Having a business bank account will also prevent many errors that could lead to unknowingly breaking tax rules and even IRS audits in extreme cases.
- There are many related topics to know when creating this account like using banks vs. credit unions, mistakes to avoid, and business bank account requirements per each major business entity structure.
Disclaimer: This is not tax nor financial advice, but education. Consult a tax advisor or financial professional for formal advice.