Cash Basis to Accrual Basis

Tax season for entrepreneurs with their own business can look different case by case. Whether you are a sole proprietor, or have incorporated your business, you will have to file the income/losses associated with your business for tax purposes. These articles will explain how you are taxed on your income from your business, which expenses are and are not deductible for tax purposes, and go a bit in depth on more specific topics.

Cash Basis to Accrual Basis

Accounting income and net income for tax purposes are usually different amounts, since there are some expenses that are allowed under accounting income but must be added back to taxable income, and vice versa.

First, you must make sure that you are following the accrual basis when calculating your taxable income, not the cash basis.

Cash BasisAccrual Basis
Can only be used by farmers, fishers, or self-employed commissioned sales agents when reporting business income for tax purposesMust be used by anyone reporting income except for those exempted
Report income in the period when you have received payment, whether you have provided the product/service promised to your customer yet or not

Report expenses in the period when paid (except for prepaid expenses)
Report income in the period when you have earned it, whether you have received payment for your product/service yet or not

Report expenses in the period they are incurred, whether you have paid for them yet or not

To summarize, the cash basis recognizes revenue/expenses in the period when they are paid, while the accrual basis recognizes them in the period when they are incurred. Accrual basis is mandatory when calculating your taxable income unless you are a part of one of the three businesses that are exempt. Even if you are exempt, you still have the choice between using the cash basis and the accrual basis.

Resources

Buckwold, William, et al. Canadian Income Taxation, 2021/2022. McGraw-Hill Education, 2021.

Wolfe, Kathy. 2022 CPA Competency Map Study Notes, 20th Edition. Densmore Consulting Services Incorporated, 2022.

Canada Revenue Agency. “Accounting for Your Earnings.” Canada.ca, Government of Canada, 14 Apr. 2021, https://www.canada.ca/en/revenue-agency/services/tax/businesses/small-businesses-self-employed-income/business-income-tax-reporting/accounting-your-earnings.html.

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