Step 3 - Master Your Finances
We’re continuing to ramp up to the launch of our Seven Day Business Starter course.
In this article we’re bringing you step three of the process - mastering your finances.
If you’re new to this series, be sure to check out the other sections:
And you can find out more about the Seven Day Business Starter course, including a pre-launch discount code available to readers of this blog.
In this article, we’re going to give you the no-stress rundown of how to set up your accounting department and make sure you’re on-side with the CRA.
Let’s get started!
Understand Your Income Tax Obligations
First up we’ll outline the key information that you need to be aware of as a new business owner when it comes to income tax compliance in Canada.
And we’ll begin with the fundamentals - revenue, expenses and net income.
Revenue, Expenses and Net Income
At its simplest level, income tax is calculated based on your net income, not your total revenue.
So what does this mean? Well, imagine your business brings in $100,000 in a year. That's your revenue.
But you’ll also have expenses: things like rent, employee salaries, and supplies to name a few. Let’s say that your expenses for the year total $60,000.
Your net income is your revenue minus these expenses.
In this example, $100,000 of revenue minus $60,000 of expenses equals net income of $40,000.
And it's this net income that gets taxed, not the full $100,000 revenue.
This is a simplified explanation, of course, but it captures the essence of how income tax is calculated.
Taxes for Sole Proprietorships and Partnerships
If you're operating as a sole proprietor or in a partnership, for tax purposes your business income is directly tied to your personal income.
In other words, the net income your business makes is what you report on your personal tax return.
The tax rate will depend on your individual tax bracket, which varies based on your total income.
Taxes for Corporations
If your business is incorporated, the taxation process looks a bit different.
Corporations are considered separate legal entities, so they have their own tax obligations separate from your personal taxes.
This means that corporations will have an extra tax return to file, called a T2, and they’ll also have corporate tax payments to make when profitable.
You pay yourself out of your corporation either by paying yourself a salary or by taking dividends.
I also recommend learning the tax deadlines that are applicable to your business and creating reminders in your digital calendar for each one.
To do this, check out our handy article on tax deadlines and then make sure to set enough of a reminder that you can manage each deadline with time to spare.
Learn About GST/HST
If income tax wasn’t fun enough for you, next up we’ve got details on how sales taxes work in Canada.
We’ll start with GST/HST before getting into provincial sales taxes.
GST stands for Goods and Services Tax, and HST stands for Harmonized Sales Tax.
In Canada, GST is a federal tax that applies across the country.
However, some provinces have a slightly different version of this called Harmonized Sales Tax or HST, which is a combination of GST and Provincial Sales Tax rolled up into one tax.
Whether you collect GST or HST depends on which province or provinces you’re selling goods or services in, but the treatment of the taxes is basically the same.
Now then, the all important question: when should you register for GST/HST?
For most businesses, meaning “for-profit businesses that are not operating as taxi or ride-share drivers,” will need to register once their taxable worldwide sales exceed $30,000 in any four consecutive calendar quarters.
How GST/HST Works
When registered for GST/HST, you collect tax from your customers and later remit it to the government.
However, you get to deduct the GST/HST that your business paid on purchases from what you send to the government.
To formula for remitting GST/HST looks like:
GST/HST collected on sales - GST/HST paid on purchases = the amount to remit to the government.
Here’s a quick example:
Let’s say that a business collected $1,400 in GST/HST in a given period.
It also paid $500 in GST/HST on purchases, including some expenses and the purchase of a digital camera.
If we know that the business has to remit an amount equal to GST/HST collected minus GST/HST paid, then that means it will pay $900 to the government ($1,400 - $500 = $900).
How to Register for GST/HST
There are a few ways to register for GST/HST. You can register by phone or by mail.
Or, you can register with our favorite method, the Business Registration Online service, or BRO for short.
To register using the business registration online platform, you’ll need a bit of information on hand.
- Your social insurance number, postal code and date of birth to confirm your identity
- Your business number
- The effective date of your registration (the current date for most new registrations)
- Your fiscal year if different from the calendar year
- Your estimated total annual revenue
It will take you through a wizard to get your business registered for GST/HST. The process is surprisingly easy, which is not something we usually say about CRA.
Know the Basics of PST
Provincial Sales Tax, or PST, are taxes levied by individual provinces on some goods and services sold within their jurisdiction. PST is separate from the federal GST/HST tax that you’re now familiar with.
There are only four provinces that levy a separate provincial sales tax. Those provinces are British Columbia, Saskatchewan, Manitoba or Quebec.
Each province has specific rules around who needs to register for and collect PST.
Generally speaking, if your business sells tangible goods (AKA products) in BC, SK, MB or QC, then it should register for the applicable provincial sales tax.
There are also some specific types of services in each province that PST applies to, but this varies from province to province.
It’s important to note that each province has its own set of rules on what's taxable and when registration is required.
How PST Works
Similar to GST/HST, you collect these taxes from customers and remit them to the respective provincial government.
However, unlike GST/HST, you generally can't claim input tax credits on these amounts. This means you can't deduct the PST you pay on business purchases from the amount you remit to the government.
Some exceptions exist, but they're limited.
Who Must Register for PST?
Specific requirements on when to register for PST vary by province, but the general overview is the same.
If you sell tangible goods or some specifically noted taxable services in either BC, Saskatchewan, Manitoba or Quebec, you’ll need to register for the applicable PST.
The same is true if you are located in another province or territory but sell goods within one of the four PST provinces.
You can find more information on each province below:
We also go into more detail in the Seven Day Business Starter course.
The topic of provincial sales taxes across Canada can get quite complex. In the interest of brevity, we’re keeping the PST discussion to a minimum here and pointing out resources for those who may want further reading.
Your Small Business Accounting System
Next up we’ll want to make sure that your small business accounting system is in place.
While bookkeeping and accounting are different functions, I’ll refer to your “accounting system” as the way in which you keep track of the financial transactions of the business.
And even before we get to the options for accounting systems, we’re going to start with our most important tip for small business accounting.
Get a Dedicated Business Bank Account and Credit Card
Get a separate bank account and credit card that are only used for business transactions. Do not mix business transactions in with your personal accounts.
This truly is the one tip that will make your bookkeeping and accounting WAY easier.
There are lots of options for dedicated business bank accounts and credit cards. Check out our recommendations for the best business accounts in Canada.
New businesses don’t usually have enough credit to obtain a credit card in the name of the business. In this case, you can use a credit card in your own name as long as you make sure to use it solely for business transactions.
Or check out a prepaid credit card option like Float Visa which can make it easier for new businesses to get approved.
Once you’ve got separate business accounts, you’re already well ahead of many other startups.
Accounting System Options
Then we can move on to choosing an accounting system.
There are two simple methods we recommend for handling your small business accounting as a new business owner.
The first method is our simple bookkeeping template to be used in Google Sheets or Excel.
It’s free to use and will allow you to get set up quickly and keep track of your revenue and expenses for compliance purposes.
We have a couple of great Google Sheet bookkeeping templates that you can use for free.
The second method is to start using purpose-built accounting software right out of the gate.
It will take you a few more hours to set up and will come with a monthly fee, but will also scale with you as you grow.
Our top recommendation for accounting software is Xero, but there are other options that work quite similarly.
You can also check out our Xero bookkeeping course that teaches you the ins and outs of using Xero to handle your small business bookkeeping.
Which Accounting System Should You Use?
To make the decision of which option you want to use, you can start by looking at your needs,
The answers to these questions will dictate which option is better for you.
First up, are you mainly looking to capture the transactional data for compliance purposes.
Meaning, are you only trying to record transactions to help you file your taxes and sales tax returns?
If you just need the basics, then a bookkeeping spreadsheet like the ones linked above can keep you to stay compliant.
Or you might be looking for more financial reporting options.
For example, do you want to review your financial statements every month and compare performance to prior periods?
This can help you understand how your business is performing and provide actionable insights to help you make better decisions.
Accounting software like Xero or QBO is much better at handling custom financial reporting.
Next up, you’ll want to look at how you are recording and collecting sales from customers.
Do you need to send invoices to your customers and clients, or are you recording sales through an ecommerce platform or a point of sale system?
Accounting systems like Xero allow you to send and track invoices easily while also making it simple for your customers to pay you by credit card.
If you go with a bookkeeping spreadsheet, there are still ways to send invoices. However, you’ll be manually compiling everything, which makes it much more challenging to keep track of who owes you money.
Integration with other applications
Another consideration is whether you have any other applications that you would like to connect with your accounting system.
If you’re selling goods from a bricks and mortar location you might have a point of sale system and an inventory tracking system to manage.
Or if you’re starting an ecommerce business, you may want to connect that to the accounting system to automate some of the data entry
The more systems involved, the more likely you’ll want to start off with a purpose-built accounting system like Xero.
And lastly, assuming you’re planning on scaling your business, when would you want to implement the system that will grow with you?
A spreadsheet is simple and free. It can help you get your business up and running quickly during the startup phase.
However, you probably aren’t planning on staying around in the startup phase for too long.
Depending on your budget, you may want to spend an extra day in the beginning to get set up with accounting software that will grow along with you.
Take all of these factors into consideration when making your decision.
The way I would look at it is if you’re building a business that you want to scale and you’re confident in your offering, then spending the extra time and money to start with a scalable accounting system is worthwhile.
However, if you just want to move quickly to start testing your business idea, then the bookkeeping template is a decent starting point.
So you’re now up to speed on income tax, sales taxes and you have an idea of which accounting system to use. Next up it’s time to take action.
The action steps you can take to master your finances include:
- Understand your tax obligations and set reminders for applicable tax deadlines
- Register for GST/HST and PST if applicable to your business
- Get a designated small business bank account and credit card
- Get started with an accounting system. We recommend a spreadsheet or accounting software like Xero.
Seven Day Business Starter Course
We cover all of this information in more detail in the Seven Day Business Starter Course. We even started a new business just to demonstrate every step with a real world example!
Check out this link for a pre-launch discount code that you can use once the course goes live. And keep an eye out for the next article in this series where we get your marketing systems dialed-in to propel your business to success.