16 Common Financial and Tax Mistakes That Affect Your Small Business’ Bottom Line

Starting a business is hard work. In addition to creating your core product or service , you also need to have a working knowledge of numerous other facets of business including marketing, IT, accounting and operations . In the early stages cost constraints may prevent you from hiring additional staff or even outside contractors to handle some of these roles may not be an option. Consequently, you are faced with the daunting task of having to learn as much as possible in a short period of time.  And although there is a great deal of information available via an internet search, it is easy to overlook something or make mistakes given a lack of experience and expertise or simply the right questions to ask. This is especially true with respect to the more technical aspects of business such as accounting and tax. 

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1.       Not reporting earnings from a business venture on your tax return

Anyone who earns income, whether you are a freelancer or selling vintage clothing on Instagram or a course/template/digital download on your website is required to declare their net business income on Schedule 2125 of their tax return. While you may not see yourself as a business owner, the tax authorities do and they, unfortunately, have the final say on this.  Of course, if you do have revenues/sales from a part time business venture, you are also allowed to claim expenses relating to your small business

2.       Not keeping track of revenues and expenses

Further to point 1, if you have a business venture it is vital that you keep track of how much you earn and any related expenses.  While many small businesses or freelancers do not need accounting software, at minimum an excel or google docs spreadsheet can be used to track your transactions.  Ideally both revenues and expenses should include details such as the date of the transaction, name of customer/supplier, amounts before sales tax if applicable and the total amount paid/received.  Additionally expenses should be assigned a category so that they can be easily summarized and then copied on to the business schedule of your tax return, which requires that you list your expenses by category.

3.       Not registering for sales taxes

Any business that has total revenues/sales exceeding $30,000, and whose products and/or services are not specifically exempt, has to register for sales tax.  It is important to keep in mind that this threshold includes sales from all sources and not just Canadian sales.  So, while you do not have to charge non Canadian customers GST/HST and/or QST, if your total worldwide sales exceed $30,000 you are required register. For example, if you have two customers one of whom is in the United States and the other in Canada and you bill them each $15,000, you would be required to register and charge the Canadian customer GST/HST (and QST if in Quebec). Not doing so can result in audit and penalties which we all want to strenuously avoid.

4.       Not having a separate business bank account

One of the most common mistakes made by small business owners when they first start out is not separating their personal and business finances.  Often they don’t want to incur fees, which is understandable, however the consequence is a jumble of personal and business transactions which becomes more unwieldy over time.  Having  separate bank and credit card accounts for your business can greatly reduce the stress of reporting your income at tax time and it provides insight into how your business is doing particularly when you don’t have an accounting system. 

5.       Not understanding the difference between employee and self employed

It is often significantly easier to hire a contractor than an employee as there is much less paperwork.  This is fine if the work being done by the contractor is occasional and they have other clients.  The problem arises when they work exclusively for your business, full time and you are essentially their boss.  In this case it is important to register for payroll and hire them as an employee.  Although this might seem like a hassle, paying employees can be fairly straightforward and is easily outsourced at a relatively low cost.

6.       Not keeping copies of bills and receipts

Business owners and employees will often incur expenses and promptly lose the receipt.  This can be a costly mistake as CRA/RQ require the original bill or receipt in the event that they audit you.  There are a number of services and apps which allow you to scan a receipt which is an excellent habit to adopt as you not only do you have the proof of the transaction saved on your computer or within your accounting software, you can also refer to it anytime.  Both CRA and RQ accept electronic documents as long as they fulfill certain criteria. Additionally, if someone performs any work for you, even on a casual basis, it is essential that they give you a bill otherwise it can be difficult to claim it as an expense. 

7.       Not filing tax returns on time

Failure to file your tax returns within the prescribed deadline can result in significant (and unnecessary) penalties and interest.  All businesses need to be aware of these tax filing deadlines even when their accountant is handling their tax obligations to avoid having any disagreeable surprises

8.       Not paying instalments

When a business reaches a certain income and sales tax threshold, they are required to pay income tax and sales tax instalments.  If you are an unincorporated business, both CRA and RQ will advise of the amounts and dues dates for income tax.  Calculation of sales tax instalments are the responsibility of the business as are tax instalments relating to corporations

9.       Not upgrading to a proper accounting system

While a spreadsheet can be a simple way of tracking your business financial activity, there is a point at which it is no longer sufficient.  Many businesses need to be able to invoice, record payments, reduce their data entry and review financial reports such as profit and loss and cash flow statements.  They might also want to track inventory, suppliers and analyze their financial data.  While many accounting software charge a monthly fee, the time savings alone can greatly  outweigh this cost. 

10.   Not replacing credit card debt with a line of credit

Running a small business can be expensive and often results in credit card debt which can build up over time.  If you are not able to pay the full amount of your credit card balance on a monthly basis and are incurring interest as a result, you should contact your bank to try and get a line of credit.  The interest on a line of credit is usually considerably lower than a credit card, (perhaps a bit less so given the rise in interest rates, but still much lower) and can result in significant cost savings.

11.   Not saving enough to pay sales tax and income tax liabilities

Many businesses use their cash flow to reinvest into their business or they might withdraw funds for personal use without realizing that they have to pay income tax and sales tax, often at the end of the year.  It can be difficult to catch up once you find yourself in this situation.  Sales tax is particularly problematic as these funds are collected on behalf of the government and never really belong to the business in the first place.  As such the penalties on late payment of sales taxes can be severe.  It is very important to set up a system, which might involve a separate bank account, whereby sales taxes and estimated income taxes are allocated to avoid scrambling for the funds at tax time.    

12.   Not reconciling business bank and credit card account

A bank reconciliation is a process whereby the transactions that have been recording for accounting/tax purposes are compared to the bank to ensure all business related transactions have been captured.  It can be easy to overlook some bank transactions which can result in missed expense deductions or payments from customers that are different from the invoice amount. By making sure that you complete a bank reconciliation on a regular basis, you ensure that you capture all discrepancies between expenses and revenues and pick up any missed deductions.

13.   Not calculating foreign exchange on relevant transactions

Often business owners will forget to reflect the exchange on foreign transactions which can result in incorrect sales and expenses.  If you are located in Canada, with certain exceptions, you must report your transactions in Canadian currency. Foreign currency can be calculated based on the rate on the date of the transaction or the average Bank of Canada rate for the full year can be used, if you are only converting your transactions on an annual basis.

14.   Not seeking professional help from an accountant or lawyer

Some startups might opt defer important legal and/or tax questions such as trademarks or transferring a sole proprietorship to a corporation or decisions relating to corporate structure in the interest of saving costs, which they might need to run their businesses.  Unfortunately not getting the right advice at the outset can prove to be a very costly and potentially business ending decision down the road. 

15.   Not choosing the best corporate structure

Business owners usually have the choice between an unincorporated structure including a sole proprietorship or partnership if there is more than one owner or a corporation.  The decision on whether you should incorporate should be carefully considered at the outset of your business and reviewed as circumstances change.  If you require some form of limited liability then a corporation is a good choice.  Conversely if you expect losses in the first couple of years of running a business a sole proprietorship allows you to deduct the losses against your other income.  There are several other considerations that should be weighed when making this decision.

16.   Not properly recording shareholder loan transactions

If you have a corporation and either contribute funds to OR withdraw fund from your corporation it is essential to reflect these transactions correctly in a separate shareholder loan account.  The amounts that you contribute as a shareholder loan should be tracked precisely as these can be withdrawn tax free in the future when your business is generating cash flow and is in a position to pay you back.  Any amounts withdrawn in excess of the amounts that are owed to you by the corporation must either be paid back within one fiscal year or declared as a salary or dividend.  If not, the government will deem this to be income and charge you tax on these amounts. 

Making mistakes is an inevitable part of running a business.  It is how many of us learn and in doing so gain the experience to create a better, more resilient business  

Ronika Khanna is an accounting and finance professional who helps small businesses achieve their financial goals. She is the author of several books for small businesses and also provides financial consulting services.

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