MaRS Library Financial statements: Choosing accounting standards
In Canada, for-profit businesses have three main options to choose from when selecting the accounting standards (or, basis of accounting) on which they will base their financial statements. These three options are:
- International Financial Reporting Standards (IFRS)
- Accounting Standards for Private Enterprises (ASPE)
- Non-GAAP reporting (for tax purposes)
Of these three, the first two are types of Generally Accepted Accounting Principles (GAAP) in Canada.
Many people conclude that they should immediately adopt IFRS as their accounting standards, and that in doing so, they will increase the credibility of their reporting. However, this is not necessarily the case. When choosing which accounting standards to adopt, the specifics of your business and the intended goals of your financial reporting should be considered (including who will be using your financial statements, both internally and externally).
International Financial Reporting Standards (IFRS)
IFRS originated in Europe and was largely influenced by multinational corporations that wanted a reporting system that remained consistent across the multiple jurisdictions in which they were reporting (e.g., businesses with operations and reporting requirements in Germany, France and Switzerland). Because its historical basis comes from large and complex organizations, IFRS was designed to deal with complicated situations faced by multinational and public corporations. As a result, many of the standards can be quite costly and onerous for small companies to implement. For example, IFRS might suggest an annual valuation performed by an actuary for a specific type of asset. Additionally, while IFRS is well recognized globally, the United States (US) has not yet adopted it. This means that a Canadian company trying to attract US investors would often be better served reporting under US GAAP than IFRS.
When is IFRS beneficial to a startup?
Startups may find IFRS beneficial if they plan to list their stock on a Canadian stock exchange in the next year or two (as all public companies in Canada are required to report using IFRS and having historic financial statements prepared under IFRS can be advantageous). These accounting standards may also be useful if a startup is looking to be acquired by a company that is already reporting under IFRS. Anyone choosing to adopt IFRS should carefully evaluate the decision from a cost-benefit perspective.
Accounting Standards for Private Enterprises (ASPE)
ASPE came into effect in Canada in 2011 (at the same time that IFRS was adopted in Canada). It is a change from the previous Canadian GAAP and is in many ways similar to IFRS. However, where IFRS was intended to be used in Canada by public companies, ASPE was intended as an alternative for private enterprises in Canada. Many of the standards in ASPE provide options for companies that are meant to be simpler to implement and more relevant and adaptable to the size of the business.
As a result, ASPE is often the best choice for a Canadian-based private company, unless there is a specific reason to use IFRS or non-GAAP reporting.
Tax basis accounting (accrual basis)
If you are not required to use GAAP in your financial statements (i.e., if you are not having an audit or a review), you will likely have your accountant compile financial statements solely for tax purposes. This simplifies the process as you are only considering tax reporting requirements. Using tax as the basis for reporting tends to result in a simpler presentation of the financial statements and limited disclosures. Nevertheless, the limited information in these statements might not meet the needs of all third-party users. This is why the financial statements would clearly state that they were prepared solely for tax purposes from information provided by management.
The underlying accounting policies for accrual basis accounting generally do not deviate widely from GAAP, although there are some places where they may. If you expect that you will need future financial statements prepared in accordance with GAAP, be aware that it may require additional work to calculate the adjustments.
Typically tax basis accounting is a suitable choice for:
- Very early-stage companies
- Companies where there is little added benefit to more formal financial reporting
- Companies where the shareholders are largely active or aware of the details of the ongoing operations and there are no current or potential investors or financers who require GAAP financial reporting