Accounts Receivable
Q: How do I handle accounts receivable effectively? When should I be worried about unpaid receivables?
Accounts receivable can be tricky, especially when trying to keep good customer relations. The first step in handling accounts receivable effectively is to establish clear and transparent credit terms (e.g. payment due dates, penalties for late payment, discounts available, etc.) to ensure your customers understand the agreement and to prevent any confusion. After setting up credit terms, keep open communications with your customers. Send timely reminders regarding upcoming payments to reduce the likelihood of late payments and to strengthen your business relationships. Lastly, remember to document everything! This will ensure accurate record keeping and help you mitigate liability.
You should start to be worried about unpaid receivables when invoices are significantly overdue. It is important to keep in mind some potential red flags such as regular customers paying late or not paying multiple invoices at all or if communication from customer is rare or stopped altogether. These are some indicators and a sign to investigate further. Providing the customer remains in touch with you and can make even small payments, it is usually a better idea to continue working with the customer rather than sending the claim to collections. However, you would not want to offer further credit until the overdue invoices are paid in full. While you are collecting the overdue amount, working for the customer for cash payments are fine.
Q: I have a receivable on my books for over a year, how to I write this off; there was HST involved, which was reported at the time of the sale, the HST portion has already been claimed to CRA.
To deal with the overdue receivable, you can directly write it off by crediting the customer’s Accounts Receivable account for the amount owed and debiting a Bad Debt Expense account. You should document your collection efforts (e.g., follow-up calls, reminders) for support of your write-off.
If you already claimed and submitted HST for this receivable, you can claim this amount on your next HST return (an adjustment on line 107) and it will be applied as a credit to that tax return, as you overpaid in a previous year. You must make this adjustment within 4 years of the original submission.
Additional information:
What to include in your return – Complete and file a GST/HST return
Instructions for completing a GST/HST Return
Q: How does a business owner record their initial cash and equipment investment in the business; subsequently when additional cash is needed, is it recorded the same way?
It’s important to understand how cash and equipment investment affect books. When business owners add money or equipment to the business, they are recorded as their personal investment. This is called “Owner’s Equity” or “Owner’s Capital.” For example, if the owner puts in $10,000 in cash or a piece of equipment worth $5,000, the business records those amounts to the business’s cash account, and the same amount is added to “Owner’s Equity” to show that the owner invested that money into the business.
If the business owner adds more cash later on, it gets recorded the same way, as an increase in “Owner’s Equity.” If the business takes out a loan (borrows money) to purchase something, that is recorded differently as a “liability” because it will need to pay it back.
We record this way to keep track of how much the owner has invested in the business compared to what the business owes, such as loans. This helps us understand the value of the business and whether it’s making money or losing money.
Q: When starting a business – registered on October 1, can a business include any expenses purchased prior to the registration date?
Yes, when starting a business, you can include expenses purchased prior to the registration date. These expenses can be deducted if they are directly related to your business and the business will be active in the fiscal period in which the expenses were incurred. However, if you incorporate, you cannot include these pre-incorporation expenses as deductions as a corporation is considered a separate legal entity from its owners. This means that any expenses incurred before the incorporation date are considered personal expenses of the owner and cannot be claimed as business expenses by the newly formed corporation.
Properly recording pre-registration expenses ensures that all costs associated with starting the business are accounted for, which helps in accurately determining the business’s profitability and tax obligations. It also provides valuable insights into the initial investment required to get the business up and running.
Additional Information from the CRA on expenses:
Cash vs Accrual Accounting
Q: A business currently does cash accounting but wondering if it should be doing accrual accounting. What is the difference and how should this be explained to the business? When is it appropriate to do cash accounting? Accrual accounting?
Understanding the difference between cash and accrual accounting is crucial for making informed financial decisions. Here’s a breakdown of each method and guidance on when to use them.
Cash Accounting: Cash accounting is like tracking your personal wallet. You only record money when it moves in or out. For example, if you sell a product today but don’t get paid until next week, you record the income next week when the cash is in your hands. The same goes for expenses – you only record them when you pay for them. This method works well if your business is small or simple, like freelancers or consultants, small food vendors, or home-based businesses.
Accrual Accounting: Accrual accounting, on the other hand, records money when it’s earned or owed. Using the same example, if you sell a product today, you record the income today, even if the customer pays you later. For expenses, you record them when you incur the expense, even if you pay the bill until later.
Accrual accounting gives a clearer picture of your business because it matches income and expenses to the period they relate to, instead of when cash moves. For example, it shows you how much you’ve earned and spent in a month, regardless of when payments are made. This method is better if your business is growing, sells or pays on credit, has inventory, or needs accurate financial reports for loans or investors. It’s also required for larger businesses.
Switching to accrual accounting involves recording unpaid invoices (money owed to you) and bills (money you owe) to get a complete view of your finances. It’s best to get help from an accountant to make the transition smoothly.
The Case for Accrual Accounting: Accrual accounting helps you see how much money you make and spend in real-time. You can track every exchange, not just the money in your pockets. While cash accounting is easy for small businesses, if the business grows, sells many products, or services, or buys things on credit, accrual accounting is better for keeping track of everything properly. To explain it: “Cash accounting tracks money when it moves, but accrual accounting tracks when things happen. It helps us make better decisions and plan.”
CRA Reference Link: Accounting methodshttps://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/sole-proprietorships-partnerships/accounting-methods.html
