Changes to Your Small Business Financial Statements

In December 2021 there were significant changes to year-end financial statements for Canadian small businesses. 

This article will summarize the important points for business owners to know relating to the changes.

What Are the Changes Called?

The current “Notice to Reader” financial statements were called “Compilation Engagement” financial statements.

The technical standard that you may also see is called Canadian Standard on Related Services 4200 or CSRS 4200.

Who Does CSRS 4200 Affect?

The changes affect a large number of Canadian small businesses, including most of Avalon Accounting’s clients.

These changes affect Canadian small business owners who previously hired an accountant to prepare “Notice to Reader” financial statements. You may also hear these referred to as “year-end financial statements”, “Compilation Engagements”, or “NTRs”.

If you have your year-end financial statements prepared by an accountant and they’re not “Reviewed” or “Audited” financial statements, this will likely affect you.

‍Learn about the differences between 'Notice to Reader,' 'Reviewed,' and 'Audited' financial statements.

When Did CSRS 4200 Come Into Effect?

The changes took effect for compiled financial statements for periods ending on or after December 14, 2021.

Why Did the Financial Statement Standards Change?

There are a number of factors that have brought about the upcoming changes. The main reasons for the changes can be summarized as follows.

To Standardize the Extent of Work Performed by Accountants

There is a wide variety in the amount and extent of work that accountants perform when preparing Notice to Reader Financial Statements.

Currently your accountant is only required to take your financial information and compile it into financial statements. This could mean just grouping items together to present a balance sheet and income statement, without even making sure that the bank account reconciles properly.

In reality, many accountants (including Avalon Accounting) have performed work to verify account balances and understand what is going on in the business. This helps to provide financial statements that are accurate and not misleading.

The new Compilation Engagement standards will increase the minimum amount of work required by your accountant. This will help to standardize the amount of work that all accountants are doing when they prepare your Compiled Financial Statements.

To Clarify Who Can Use the Financial Statements

The current “Notice to Reader” standard assumes that the financial statements are only going to be used internally by the business owner(s) and management.

However, the reality is that these financial statements are commonly shared with third parties such as banks and investors to obtain loans or external investment.

To Ensure Third Parties Understand What “Compiled Financials” Mean

Because there was such a wide range in the amount of work that accountants do when preparing NTR financial statements, third parties (banks, investors, etc.) may not understand what they’re looking at.

For example, a prospective investor may think that the accountant who prepared the NTR financial statements has reconciled bank accounts and asked questions about the business’ financial information.

Under the current standards, the accountant may not have done either of those things which increases the chances that the financial statements are not accurate.

The new standards will clarify what work the accountant is required to do when preparing “Compiled Financial Statements.” This will help to give third parties confidence that the minimum standard of work completed by the accountant will produce financial statements that are not misleading.

To Clarify the Basis of Accounting Used By the Business

The current reporting standards don’t require the basis of accounting to be disclosed on the financial statements.

This makes it difficult to compare one business’ financials to another because their accounting methods may be different.

The upcoming changes will require the basis of accounting to be specified on the financial statements.

What Does This Mean to Business Owners?

Now for the important part - how does this affect you as the business owner?

Your Accountant Will Ask You More Questions

Oh joy, you’ll have more questions to answer when your accountant prepares your year-end financial statements.

This is actually a good thing because your accountant will be getting a better understanding of your business which will help prepare more accurate statements.

Questions that need to be answered will include:

• Basis of Accounting - What basis of accounting was used? Your accountant can discuss this with you to help answer the question.
• Intended Users - Who are the intended users of the financial statements? Put another way, is there a chance you will be sharing these statements with anyone outside of your business (banks, investors, etc.)?
• Third Party Users - Will any third party users of the financial statements (banks, investors, etc.) be able to request and obtain further information? Your accountant will also want to know if those third party users have agreed on the basis of accounting that was chosen.

Accounting Costs Will Increase

Because of the additional work required by your accountant, your accounting costs will very likely increase.

This probably isn’t a welcome change, but the good news is that your accountant will now be preparing your financial statements to a higher standard.

Management's Responsibility for the Financial Information

Under the new standard, management will need to acknowledge that they take responsibility for the final version of the financial statements.

This will usually come in the form of signing off on the final copy of the statements.

Chances are good that you’re already taking a close look at your financial statements and at least verbally agreeing that your financial statements look ok to you. This will take it one step further with written confirmation.

Your Financial Statements Will Look Different

They probably won’t look a lot different, but you will definitely see a couple of changes.

• Compilation Report - Instead of a “Notice to Reader” report, you’ll see a “Compilation Engagement Report”. See the “Business Owner’s Guide to CSRS 4200” linked at the bottom of this article for an example of this report.
• Note Disclosure - You will see a note disclosing the basis of accounting that was used for your financial statements. Currently you might not see this, or you may see a note saying that your financial statements may not be in accordance with any specific reporting framework.

The Engagement Letter Will Look Different

Your accountant sends you a long and legalese looking engagement letter every year. This engagement letter will look a bit different going forward.

The new engagement letter will include details about the objective and scope of the compilation engagement. It will also outline the intended use of the financial information as well as the responsibilities of management and the accountant under the new standard.

What if I Don't Want These Changes?

Your accountant will be required to implement these changes when preparing “Compiled Financial Statements” starting with periods ending after December 14, 2021.

However, if you are happy with the financial statements that are generated by your bookkeeping software, you don’t need to ask your accountant to prepare “Compiled Financial Statements” for your business.

This means that your accountant can still prepare a tax return for your business without also preparing “Compiled Financial Statements.”

We won’t be recommending this route.

We will be recommending that “Compiled Financial Statements” are prepared with the year-end work. This isn’t because we are greedy and want to increase our fees.

The reason comes from the extremely common requirement for businesses to provide financial statements to banks, potential lenders and investors.

If a business owner engages an accountant to prepare a tax return only (no financial statements), they won’t have the financial documents that a bank needs to approve a loan.

In this scenario, the business owner would need to go back to their accountant and pay additional fees to have “Compiled Financial Statements” prepared. Then, they will need to hope that their accountant can get the work done fast enough so that the information can be sent to the banker in time for loan approval.

We want to avoid this scenario.

Discuss with Your Accountant

While these changes don’t take place until December 2021, your accountant will already be planning for the new standards.

New engagement letters for December 2021 year-ends are being updated and sent out to clients and planning for the additional work is already taking place.

If you haven’t heard anything from your accountant about this yet, it’s a good idea to reach out and discuss what the changes will mean for your business.

Additional Resources

Here are a few additional resources that you may find useful.

• Business Owner’s Guide to CSRS 4200 - CPA Canada’s guide for business owners on the upcoming changes.
• Third Party Guide to CSRS 4200 - CPA Canada’s CSRS 4200 guide for third party financial statement users (banks, lenders, investors, etc.)

New Financial Statement Standards - Avalon’s summary article on the upcoming changes. We go into a little more detail on the types of financial statement engagements and the different bases of accounting.