March 20, 2020

2017 has certainly seen a whirlwind of change to the Canadian tax landscape.  This has inspired us at KB to start a series of blog posts to provide insight on current accounting and tax issues which impact our clients and Canadians alike.

Our first post starts with a discussion on the recent changes to the tax work-in-progress rules.  Work-in-progress (“WIP”) is work that has been performed but not yet billed to clients.  These proposed rules impact professional businesses including accountants, dentists, lawyers, medical doctors, veterinarians, and chiropractors.  If you fall within this group, keep reading to see how the new rules may impact you!

Current Rules

The current rules governing the taxation of WIP are found in Sections 34 and 10(14) of the Income Tax Act (the “Act”).  Prior to the latest budget, taxpayers in certain designated professions, including accountants, dentists, lawyers, medical doctors, veterinarians, and chiropractors, could file an election allowing them to exclude the value of their year-end WIP from taxable income for the year.  By filing this election, these professionals are taxed on an “as billed” basis.

Proposed Rules

On March 22, 2017, as part of its federal budget, the federal government proposed to revoke this election.  If the proposed legislation is enacted, professional businesses that previously qualified for the election will be required to include their year-end WIP in their taxable income.  As a result, many professionals may be faced with an unexpected tax bill on revenue they have not yet collected on.  To soften the impact of these changes, the proposed rules allow unbilled WIP to be progressively included in taxable income over the first five years after the new legislation is enacted.  Included at 20% each year, by the fifth year, the full amount of WIP will be included in taxable income.  WIP can be valued at either (i) fair market value or (ii) the lower of cost and fair market value.  If enacted, these changes will take effect for all fiscal years that begin after March 22, 2017.


The law firm, Sue, Yu, and Partners, has a December 31st year-end and earned $2,000,000 of accounting net income in each of its taxation years from 2018 to 2022.  The accounting income includes year-end WIP which is valued at fair market value based on the firm’s charge-out rates.  The amount of WIP at each year-end from 2017 to 2022 is $250,000, $300,000, $325,000, $375,000, $350,000, and $nil, respectively.  Historically, the law firm has elected under Section 34 of the Act to exclude WIP from its taxable income.

Under the current legislation, the firm’s taxable income would be calculated as follows:

Dec 31, 2018Dec 31, 2019Dec 31, 2020Dec 31, 2021Dec 31, 2022Total
Accounting Income$2,000,000$2,000,000$2,000,000$2,000,000$2,000,000$10,000,000
Ssec 34(a) deduction – prior year250,000300,000325,000375,000350,0001,600,000
Ssec 34(a) deduction – current year(300,000)(325,000)(375,000)(350,000)(1,350,000)
Taxable income$1,950,000$1,975,000$1,950,000$2,025,000$2,350,000$10,250,000

Under the proposed new legislation, the firm’s taxable income would be calculated as follows:

Dec 31, 2018Dec 31, 2019Dec 31, 2020Dec 31, 2021Dec 31, 2022Total
Accounting Income$2,000,000$2,000,000$2,000,000$2,000,000$2,000,000$10,000,000
Ssec 34(a) deduction – prior year250,000250,000
Ssec 34(a) deduction – current year
Ssec 10(14.1) transitional adjustment(240,000)(195,000)(150,000)(70,000)(655,000)
Par 12(1)(b) inclusion240,000195,000150,00070,000655,000
Taxable income$2,010,000$2,045,000$2,045,000$2,080,000$2,070,000$10,250,000

As a result of the new rules, the current year WIP is included into the calculation of taxable income even though the amount will be collected after year-end.   Also, the WIP that was previously deferred for tax purposes in 2017 is now included into income over five years.  Ultimately the total taxable income under both systems would be the same.  However, the new rules create an increased tax liability in the first five years with no corresponding receipt of cash, which causes adverse cash flow consequences for the impacted professionals.


While the proposed changes appear straightforward, there are many complexities that professional businesses will need to address before implementing these proposed rules.

Costing of Work-in-Progress

For instance, many legal and accounting firms currently value their WIP based on charge-out rates, which typically approximates fair market value.  Under the proposed rules, WIP can be valued at either (i) fair market value or (ii) the lower of cost and fair market value.  This will require professionals to determine the cost of their WIP.

There is no legislative guidance in the Act nor published case law that specifies how to cost WIP.  Professionals will have flexibility to choose an appropriate costing method that most accurately reflects a picture of their profits and expenses.  Drawing from the inventory costing methods used in accounting, the cost of WIP will generally include costs such as direct salaries, supplies, printing charges, couriers, and other disbursements.  A portion of overhead may also be attributable to WIP.  There is little guidance on whether time spent on projects by non-salaried owners or partners of the business would be attributable to WIP.  It will be necessary for professional businesses to determine and document supportable positions when costing WIP.  Once a costing methodology is selected, it must be applied on a consistent basis in each subsequent year.

Professional Businesses with Multiple Partners

Another complexity arises when a professional businesses is made up of multiple partners.  For many professionals, the WIP account is an amount that has been built up over time as a testament to the growth of their business.  Savings from WIP deferred under the current rules benefited certain partners in the past, some of whom may no longer be with the business.  Current and new partners, who may have received limited benefit from the WIP deferral, will now bear the full cost of reversing the deferral under the new rules.  Furthermore, businesses with multiple partners may recognize that the work carried out by certain partners may be more prone to longer billing periods and thus higher WIP than other partners.  If these businesses were not tracking WIP by specific partner in the past, this may be an area that they wish to explore.  In summary, businesses with multiple partners may need to consider whether any amendments are required to their partnership agreements as a result of the proposed legislation.

Contingency Fee Arrangements

The Canada Revenue Agency has clarified that revenue earned from a contingency fee arrangement would not be affected by the proposed changes since it is difficult to determine the amount receivable from clients (i.e. fair market value) in these circumstances.


In anticipation of these new rules, professional businesses should consider the following:

  • Which of your costs are attributable to WIP?
  • What changes will need to be made to your internal accounting and costing functions?
  • Are you carrying any WIP on your books that should be written off or written down?
  • Can you accelerate your billing and collection on accounts?
  • Will you need to revisit your firm’s partnership agreement to reflect these proposed rules?

Be sure to join us next time as we discuss other current tax and accounting issues!  If you have any questions or need help navigating through this storm of new tax legislation, please contact us at

(905) 475-2222 or

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Written by Sara Tan