Corporate Income Tax, Small Business

Choosing a Corporate Year End

Before choosing a date for your year end, think about the date that works best for your kind of business.

When entrepreneurs incorporate their businesses under their respective provincial articles of incorporation, often, little thought is given to the date for the fiscal year end. Many company founders unconsciously identify the company’s fiscal year end with the calendar year end of December 31, and therefore automatically select this date. After the articles of incorporation have been issued, the business may choose any date as year end provided the number of days of the fiscal year do not exceed 371. Conventional wisdom suggests, however, that the last day of the chosen month is the most practical date since most businesses and financial institutions process client data on a month-end basis. Setting the year end date at the end of your chosen month permits an easier cut-off and reconciliation process.

Factors to Consider

Inventory

If, for example, you are a retail business, physically counting inventory during your busiest sales period (i.e., Christmas) would disrupt business, so January 31 would be a good date for your year end. Inventory, as well as the level of in-store activity, will be at their lowest in January when your staff can count, price and value inventory without taking time away from selling. For a service industry such as landscaping, work-in-progress may have to be calculated. It may be best to have a year end such as November 30, after the bulk of the contracts are finished.

Choose a year-end date that works with your accounting cycle.

Accounting

Choosing an arbitrary year end such as December 31, which may not match your accounting cycle, could create issues for your in-house accounting staff as well as your CPA. Internal staff is often overwhelmed with completing year-end procedures for payroll, government reports, and finalizing year-end inventory, not to mention cut off of receivables and payables or budgeting for the coming year. Such stress can lead to errors, increased overtime and frustration.

Also, if your year end is December 31, your CPA may not be as available as you would like because they are consumed by tax planning and tax preparation for individuals and may be in no state of mind to work with staff that is already frustrated by their own year-end requirements. (This is not the best of formulas for getting quality time with your CPA to analyze your financial results.)

Start-up capital

When a business starts up, cash flow difficulties are common, given the need to borrow working capital for start-up costs and capital assets. If, by good fortune, the business does extremely well in its first year and substantial taxable income materializes, a year end set 365 days from the date of incorporation may be advisable. Since there is no requirement to pay monthly or quarterly instalments in the first year of operations, the business gets the maximum tax deferral by setting the first year end as late as possible. A later year end would lessen the actual cash outflow for corporate income tax and provide additional working capital in the start-up period.

The requirement to pay monthly or quarterly instalments begins in the second year, the payment amounts are determined by the taxable income reported in the first year. In case the first year end was shorter than 365 days, the taxable income is normalized to reflect the income had it been for the full 365 days. This may be helpful for seasonal businesses, to set a year end prior to the peak income period because that would not only defer the tax liability of the first year but also reduce the required instalments in the second year. This allows businesses to have more working capital during the start-up phase.

Tax Deferral

Choosing a year end of July or later allows tax deferral of corporate profits. Suppose, for a moment, that the corporate profit is $150,000. Rather than pay the corporate tax on the $150,000, management may decide to pay out the $150,000 in bonuses to various employees of the company. If the bonus is declared for the July 2016 year end but not paid until January of 2017, the income tax expense for the corporation is nil and the tax on the bonuses is not taxed in the hands of the recipient until it is paid in January of 2017. This approach provides working capital for the corporation that otherwise would have gone to the Canada Revenue Agency (CRA).

Changing Your Year End

Your business may have changed over the years so that now there are compelling reasons to change its current year end, such as staffing or administration issues that make it impossible to complete the year-end process in a timely fashion. If, for instance, your business now has a high sales volume or high inventory at the current year-end date, it might be less disruptive to end the year on another date. If you are a subsidiary or highly dependent on another business such as a supplier, there could be administrative and accounting advantages to aligning year ends.

A request to change the year end must be sent to the CRA. Changes can only be made for sound business reasons (i.e., not for the purpose of an income tax benefit). A request for a change is not required if:

  • the corporation is wound up and the final return is filed with a shorter fiscal year
  • the corporation is emigrating to another country, is becoming exempt from tax or will cease to be exempt from tax
  • persons or a group of persons acquired control of the corporation under subsection 249(4) of the Income Tax Act.

Owner-managers should keep in mind that, if a change in year end is granted, it will be necessary to produce financial statements and tax returns for the shorter period. Further, depending upon your accounting system, there may be additional cost in establishing the new year-end protocols.

Check with Your CPA before Making a Change

Decisions about establishing a year end or changing a year end can be fraught with unforeseen income tax consequences for both the corporation and owner-managers if personal and corporate tax issues are not considered. Entrepreneurs should meet with their CPA to discuss tax consequences; seasoned owner-managers should consider meeting with their CPA if making a change to the business year-end seems to be more and more necessary.


The preceding article is reprinted from the October 2016 newsletter Business Matters with the permission of the Chartered Professional Accountants of Canada.  Business Matters is a bi-monthly newsletter, the full version of which can be obtained on request. 

This post deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein.

Although every reasonable effort has been made to ensure the accuracy of the information contained in this letter, no individual or organization involved in either the preparation or distribution of this letter accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.

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