Changes to GAAP for private companies in Canada

Since the mid 90s there has been debate within accounting circles on whether there should be two versions of GAAP – one for public companies and one for private companies. Big GAAP and little GAAP. The logic is that there are sections of GAAP that do not apply to non publicly accountable entities, and time and money is wasted complying for little benefit.

In 2002 differential reporting became available for private companies which allowed management, with the unanimous consent of shareholders, to choose how they accounted for certain financial statement items from among options. For example, subsidiaries and joint ventures can be accounted for using the equity or cost method, in addition to full consolidation.

IFRS presented the next challenge. Canada will adopt IFRS for public companies for years beginning on or after January 1, 2011. But what about private companies? The AcSB decided to tailor existing Canadian GAAP to the needs of private companies.

The following removed sections, for example, didn’t apply to private companies:

  • Earnings per share, as the measure is primarily used by public companies
  • Interim and segment reporting, for the same reason
  • Most EICs, which are mostly very detailed rules for special, specific situations

Differential reporting options were maintained for the most part, including:

  • Income taxes, which can be accounted for under the future income taxes or taxes payable method
  • Subsidiaries, joint ventures and investments, which can be accounted for under the equity or cost method

Note disclosure is being simplified. For example, property, plant and equipment, which previously required more detail in the notes, will no longer require it. The reasoning was that most third party users of private company financial statements look to key ratios calculated from the financial statement numbers to judge a company’s financial health rather than details on line items.

Financial instruments have been significantly simplified. All will be measured at historical cost, with two exceptions measured at fair market value:

  • Equity investments for which market price is readily available
  • Derivatives not qualifying for hedge accounting

IFRS adoption will be optional for private companies, and will make sense for those that plan to go public in the near future and possibly for those that compete against public companies to aid investors looking to compare their figures. Of course there are already private companies in Canada that are subsidiaries of European entities and have been reporting under IFRS for years now. (I work for one.)

All these changes should lower compliance costs for private companies, which should include lower audit fees. An article on private company GAAP in the current CA Magazine mentions lower costs three separate times. These will be realized primarily thanks to easier to audit information (cost vs. fair value) and lower disclosure requirements.

I hope all the accounting firms are getting ready to lower their prices now that the audit costs will be reduced.

Canada gets a variety of tax cuts

Canadian coinsThe Canadian government released a mini-budget this past week that featured serious tax cuts. The GST goes down another point to 5% and the lowest bracket of personal tax is lowered back down to 15%. Corporate taxes continued their downward trajectory.

The CICA focused first on the reduction to corporate taxes:

“The government’s commitment to reduce the general corporate tax to a rate of 15% by 2012 is a positive step toward making Canadian companies more competitive,” said Kevin Dancey, FCA, President and CEO of the CICA.

Their media release about the announcement actually doesn’t even mention the GST or personal tax. That’s a little strange. I hope they’re just working on something really special and it’s taking longer than expected, because they would be remiss to miss out on commenting on these topics as well.

Clearly we as a profession should have something official to say about personal and consumption taxes. I know I do, as an individual member.

The Basic Personal tax credit amount was raised to $9,600 in 2007 and is scheduled to rise further to $10,100 in 2009. This is a positive step and smart policy, as a strong argument can be made to increase the limit to the poverty line. Any increase here is progressive and ought to be well received.

The cut to the GST from 6 to 5% as of January 1, 2008 is essentially regressive and rewards increased consumption. Shifting the savings here to the Basic Personal credit or lowering the general rate on income tax would have been better and greener.

Canada is riding high on a wave of prosperity, the loonie has reached levels not seen since before the 20th century, and unemployment is reaching all-time lows. It is only fitting that the Federal government return some of its surplus to Canadians.

How to read the Income Tax Act

Continuing the new post series where I answer readers’ questions they’ve Googled to find my site, as logged by 103bees.com, the next one is sent chills down my spine: “How to read the Income Tax Act?”

The last time I cracked open the Act, it was probably tax class in university. Once you’re done those classes, there’s really no need to delve into the swirling mass of dense legalese again. There are many more comprehensible sources for tax information, so don’t read the Income Tax Act. In its place, do these things:

  • Read the Canadian Revenue Agency’s website. They write about tax in plain English (most of the time) and it’s reliable information since it is from the source.
  • Read accounting firm websites. All the major firms have sections on their websites that offer regular tax facts and updates, detailing bits of tax law applicable to your situation, whatever it may be. Again, plain English (for the most part, although we do tend to introduce jargon from time to time).
  • Read tax textbooks. I still do this when I want a refresher. Textbooks are occasionally dense, but usually still much easier to read and understand than the Act.
  • Call in to tax related TV call-in shows. These seem to be on regularly, on CityTV especially and other fringe channels that predominantly have call-in shows. They feature knowledgeable experts sharing advice for free.
  • Use tax software. If you own one of the tax packages people use to do their own taxes, these can be used to answer your questions in a meaningful way: with your numbers, or with dummy data as examples.

Reading the Act is best left to the professionals who have specialized in tax. As you can see, there are many alternatives, most of which are available on the web, that the average person can use instead to find guidance on any particular issue.

Capital gains exemption limit increased to $750,000

As of March 19, 2007, the capital gains exemption has been increased to $750,000 from its previous $500,000 limit. This means that if you haven’t already taken advantage of the tax preferred treatment of capital gains on qualified small business shares, you should do so while the getting’s good. If you have already maxed out your $500,000, you have an additional quarter million to play with.

Estate tax as income tax

I just finished reading an article recommended by Richard about the estate tax, titled “Death and taxes“. It appears in New Statesman, a UK magazine “created in 1913 with the aim of permeating the educated and influential classes with socialist ideas.”

I’m glad I read the article in full before reading the magazine’s history, as it would’ve no doubt coloured my impression. The article refers to a John Rawls’ idea that would revolutionize estate taxes:

… hence inheritance tax could be made progressive, through orienting it towards receivers rather than donors. Large estates need not attract any taxation, as long as they were dispersed among a number of relatively disadvantaged recipients. At the same time, even small estates could be taxed heavily if they were all left to others who were themselves already wealthy.

I love this idea. Will it be implemented though? Most political discussion of the tax revolves around scrapping it or keeping it. It will take leadership to steer the discussion towards reorientation the likes of which Rawls suggests.

The article defends the estate tax on a number of points, but the free market one resonated with me most, which is no big surprise:

A free market in trade and employment gives us, let us suppose, a dynamic, innovative and thriving economy. It does this by incentivizing hard work, and letting economic rewards flow to those with the best ideas and the greatest capacity for hard graft.

But, if this is our vision of society, we surely must admit that the unearned windfall gains of inheritance tax distort this picture. Large inheritances distort the level playing field which would allow the dynamic and innovative to prosper.

Turning the estate tax into a income tax on the recipients would certainly shake things up, potentially improving the competitiveness of the economy while preserving the source of progressive government revenue. We should give it a shot, but the political will has to be there.