It is inevitable says Edmonton bookkeeping that small business owners are going to be taking money out of their business for personal use, or putting their personal money into their business. In fact, industry Canada says that 80% of all entrepreneurs do this. The best practices is for entrepreneurs to never co-mingle their business and personal finances, but since it is mostly inevitable that it will happen, entrepreneurs need to learn to keep track of this money very well.
Every time an entrepreneur takes money out of their business for personal use or puts personal money into the business, they need to keep extremely good track of it. Not just in receipts and notes, but in what is called a shareholder loan accounts. This is set up on the balance sheet, under liabilities and is designed specifically to keep track of all of the money that an entrepreneur has put into or taken out of the business personally. The reason why is because, at the end of the year, their Edmonton bookkeeping company will calculate how much money they have put into the business and subtract that off of the money that they have taken out of the business. If they have ended up taking out more money than they have put into their business, that means their shareholder’s loan account is overdrawn, and they either need to declare it as salary or dividends, so that they can pay the appropriate tax on it, or they must pay that money back to their corporation. Since most entrepreneurs are not going to pay that money back, because they have taken it out of their business in order to live, the most reasonable thing is to simply claim it and pay taxes on it.
If an entrepreneur has put more money into their business than they have taken out, that amount is but an entrepreneur can take out of their business at any point tax-free. Since they have put that money into their business, they can just claim it back whenever their corporation can afford to pay them. Once an entrepreneur and their accountant has figured out how to set their shareholder loan account balance back to zero at the end of their fiscal year, they can start counting the shareholder’s loan back up again.
Many entrepreneurs believe that they can leave their shareholder loan account overdrawn for the year says Edmonton bookkeeping. And while it is technically possible, it is not advised. The reason why, is because once it has been in an overdrawn state for one year or more, it is considered a long-term liability, and technically the entrepreneur owes their corporation interest on the amounts that they have essentially borrowed from the business. The reason this is possible is that the entrepreneur and their corporation are considered to separate legal entities. Canada revenue agency may at any time as they see fit order the entrepreneur to pay interest plus penalties on that amount. It is far more beneficial for an entrepreneur just to clear that shareholders loan account by paying the appropriate taxes and avoid a potential penalty from Canada revenue agency for not paying interest on their loan.
Edmonton Bookkeeping | What To Know About Using Shareholder Loan Accounts
When an entrepreneur has taken more money out of their business then personally put into it says Edmonton bookkeeping, they need to figure out how to declare that as salary or dividends in order to pay the taxes on it. There is many things that an entrepreneur needs to factor into that decision, and it is a decision best made as a team with their Edmonton bookkeeping company as well as their accountant.
The differences between salary and dividends is huge in terms of how it affects the bottom line of the business. And the most tax-efficient strategy rarely has an entrepreneur getting paid 100% in salary or 100% in dividends. Usually, it is a split between the two, taking into consideration several business and personal factors.
An accountant may ask an entrepreneur several questions such as if they are the sole owner of the corporation if they have business partners and what percentage of ownership they share. The ask if the entrepreneur depends on the money from their corporation to support their family, that have other revenue streams coming into the business, to they have any dependence or a spouse? All of these answers will help the accountant and Edmonton bookkeeping company figure out the best way to claim that money.
Also, several things need to be taken into consideration because a dividend, is taken from the prophets of the corporation. If the corporation either did not profit, then the entrepreneur cannot take dividends out of their business. If an entrepreneur took way more money out of the business then they earned in dividends, then they can only take up to the amounts that their corporation profited. Since dividends are the earnings of the corporation, they show up on the balance sheet and not the income statement and does not negatively impact the business. This is the most advantageous way to claim the money that they took out of the corporation, it is not always possible.
Salary, on the other hand, says Edmonton bookkeeping is actually considered an expense of the business and negatively impacts the bottom line of the business showing up on the income statements. Although it is the most common way for entrepreneurs to take money out of their corporation, business owners should be mindful to take out the a minimal amount of salary as possible, so that if they ever want to sell the business, it can have the most promising -looking profit, to appeal to future investors. Also, salary is taxable income through source deductions. Whatever an entrepreneur claims as salary, needs to have the source deductions paid to Canada revenue agency at the end of the year. This means employer and employee CPP, as well as EI and income tax need to be paid on that. If an entrepreneur has claimed they have taken all of the money of the corporation as salary, there business has to pay that tax complete and in full to avoid penalties.