Year end is just around the corner, says CPA Australia's Mark Morris. And it pays to be prepared.
As the financial year draws to a close, it is timely for individuals and small businesses to consider the following year-end tax tips.
Record keeping Records are normally required to be retained for tax purposes for at least five years, but special requirements apply in some areas. For example, in the case of capital gains tax and the substantiation rules, records have to be held for longer periods.
Work-related expenses (WREs) The ATO's compliance program for 2008 again focuses on over-claiming of employee's work-related expenses. Such expenses typically include employee claims for expenditure incurred on items such as travel, uniforms, subscriptions, union fees and self-education.
Rental properties The ATO is maintaining its strong focus on this area because of the large amount of revenue involved. The types of things the ATO looks out for are repairs versus improvements, ensuring the property was really a rental property (and not just your weekender), and that interest on any property loans has been correctly claimed.
Certain building capital works (including construction and improvement costs) may be written off as a tax deduction over a 40-year period (2.5 per cent per annum).
Dividends and interest To ensure that interest and dividends are returned by taxpayers, the ATO matches information provided in tax returns with information from external sources. But don't forget to put in your imputation credits. The best way to avoid trouble here is to include all such income in your return and retain supporting documents such as bank and company dividend statements.
Capital gains Any capital gain on the disposal of an asset can be reduced by ensuring that all eligible items are included in the asset's cost base including capital improvements and incidental costs such as stamp duty, legal costs and commission fees, and by applying available capital losses.
You may also be able to further reduce the balance of any net gain under the general 50 per cent discount and, if you are a small business owner, the various small business CGT concessions.
However, the ATO advised, in its 2008 compliance program, that it will closely scrutinise asset transactions. In particular, it has expanded its data matching projects to ensure that there is no underreporting of capital gains as it now has access to data on asset sales from state title and revenue offices, securities exchanges and share registries as well as reports from managed funds. Therefore, you should keep all relevant records to support the details provided in your return.
Aggressive tax planning Taxpayers should continue to be cautious about year-end tax schemes, and carefully consider all the information in the market on this type of higher-risk investment. This includes product rulings and taxpayer alerts issued by the ATO.
You should stick with those products that have ATO product rulings, but note that these are not intended to be any guarantee of an investment's profitability. Also, they may not be worth much if the investment venture is not aligned with the business plan, as set out in the original prospectus.
Deductions will be available for investments in relation to non-forestry agribusiness managed investment schemes entered into before 1 July 2008. Specific deductibility rules apply to investment in forestry schemes. Check the ATO website for further details, including the investment checklist.
Taxpayers should also beware of entering into wash sale arrangements, where an asset is disposed of at a loss but the owner still has substantial economic control over the same asset after the sale. Such arrangements may occur so that any resulting capital loss on the sale of an asset can be applied to reduce a capital gain on another asset, and the original asset sold is later reacquired. The ATO advised in Taxation Ruling TR2008/1 that it might apply the general anti-avoidance provisions of Part IVA to deny any capital loss or deduction claimed arising from such arrangements.
Salary packaging and fringe benefits This can be a useful way to obtain some tax savings, particularly if you are on the top marginal tax rate and your employer offers it. Some of the most common and tax-effective items to consider include superannuation, laptop computers and motor vehicles. Employees should ensure that an effective salary sacrifice arrangement foregoing salary or a bonus for fringe benefits or additional superannuation contributions are entered into before the applicable salary or bonus has been earned.
Note that your employer will include the reportable fringe benefit amount on your payment summary, which must be included in your tax return. This may impact on your liability for the Medicare levy and entitlement to certain benefits. Business owners should note that fringe benefits tax (FBT) may be applicable to entertainment expenses (from business lunches to tickets for sporting events), company motor vehicles, some directors' loans or a range of other benefits received by employees and directors.
Family tax benefit Family tax benefit (FTB) is available to eligible families (including sole parents) with children. You can claim the FTB as a direct payment from Centrelink, or as a lump sum via your tax return or periodically through reduced PAYG withholding payments. But make sure you don't 'double dip'.
Rebates Tax rebates (or offsets) can reduce your tax bill, so it pays to know what you are entitled to. What you can claim depends on the level of your income and family circumstances. Examples of rebates, subject to satisfying certain criteria, include private health insurance, medical expenses, superannuation contributions for a low income spouse and a dependant spouse, as well as tax offsets for low-income earners and senior Australians.
A 25 per cent entrepreneurs' tax offset is also available to taxpayers who have chosen to enter the Small Business Entity (SBE) system.
However, the child care rebate is no longer paid through the tax system but is instead separately calculated and paid by the Family Assistance Office.
Can I just make an estimate of my stock? It's not sufficient to simply make an estimate of your stock, or to take a guess. Each year you need to include a value in your accounts of stock in hand and work-in-progress at 30 June. Closing stock can be valued at cost, replacement or market value or less if obsolete, but you have to document which method you use.
Company loans? It is important to ensure that private company loans that extend beyond the end of the income year are properly documented, to ensure that a tax liability is not triggered under the tax rules set out under Division 7A.
Adequate annual repayments of a properly documented loan are also required. It should also be noted that taxpayers with prior year loan or other exposures under Division 7A which arose between 2002 and 2007 have until 30 June 2008 to take corrective action to put such transactions on a Division 7A compliant basis where the exposure arose due to an honest mistake or inadvertent omission.
Where such action is taken by year end the ATO will not treat the prior year exposure as a deemed dividend under Division 7A. Further details on such corrective action are set out in Practice Statement PS LA 2007/20 on the ATO website.
Bad debts If you want to claim for bad debts, remember that they must be bad and written off before the end of the financial year. To do this, the debt must generally have been brought to account as assessable income and you must have given up all hope, and more importantly, all action for recovery. Bad debts cannot be claimed by taxpayers who recognise income on a cash basis.
Why should I review my assets? It's too easy to carry assets on your books that have no real value, are obsolete or have been scrapped. The only way to get a write-off deduction for them is to review your asset register and take the necessary action before 30 June. The asset register is the list you should be keeping of all plant, equipment, furniture, fittings and any other assets, including all items bought, sold and disposed of during the year.
The SBE system The SBE system commenced on 1 July 2007, being a concessional tax regime for small business taxpayers whose aggregate turnover is less than $2 million. Its key attractions include an immediate write-off for new depreciating assets costing less than $1000, and accelerated depreciation on such assets costing $1000 or more.
SBEs are also able to access the CGT small business concessions, car parking FBT exemptions and certain GST and PAYG concessions. In addition, SBEs are subject to a reduced audit review period of two years.
If you are not already in the SBE system, consider if you qualify and whether you should elect into it. To obtain the SBE benefits for 2008 the necessary election must be lodged with the ATO when you lodge the income tax return for your business for the year ended 30 June 2008.
Prepayments Most business taxpayers must pro rata the deduction for prepaid expenses over the period to which the expenditure relates. However, individual non-business taxpayers and SBEs can prepay some expenses up to 12 months in advance. Also, the normal rules restricting prepayment deductions do not apply to contributions paid by an investor to a forestry managed investment scheme.
Superannuation Employers must ensure they have made sufficient superannuation contributions (currently 9 per cent) for all of their employees on a quarterly basis throughout the financial year to avoid the risk of incurring a penalty under the Superannuation Guarantee Charge (SGC) regime. Eligible superannuation contributions for the June quarter must be paid by 30 June 2008 to be tax deductible. Book entries alone are not enough.
Even if you miss the 30 June deadline for deductibility, you must make the payment by 28 July 2008 to avoid SGC penalties. Following recent changes self-employed taxpayers will be able to claim all their contributions to a complying superannuation fund as fully tax deductible up to age 75.
However, such contributions will not be deductible if 10 per cent or more of a person's assessable income or reportable fringe benefits is attributable to their employment as an employee.
Employers are also able to claim deductions for employee superannuation contributions made to complying superannuation funds provided the employee is under 75.
But any excess contributions made by a self-employed person or by an employer in respect of an employee will be taxed at a rate of 46.5 per cent (rather than 15 per cent) if the contributions made during the year exceed $50,000 (or $100,000 for persons aged 50 or more at 30 June 2008).
Contributions made from the taxpayer's after-tax income to a complying fund will not be deductible or included in the fund's assessable income.
However, the amount of such contributions cannot exceed $150,000 for the 2008 year, (or $450,000 if contributions for the 2009 and 2010 years are brought forward) as any after-tax contributions made in excess of these limits will be taxed in the hands of the individual taxpayer at 46.5 per cent. Special rules apply to exclude certain personal contributions from these limits.
Low-income earners may also be able to access the government co-contribution where the government makes a contribution of 150 per cent of any personal contributions made by a taxpayer. Thus, for every $1000 personally contributed by such a taxpayer there will be a matching government co-contribution of $1500. To be eligible the taxpayer's total income must not exceed $28,980 for the 2008 tax year.
However, the co-contribution is reduced where the taxpayer's total income exceeds $28,980, and is fully phased out where total income exceeds $58,980.
From the 2008 tax year self-employed people are also able to obtain equivalent access to the co-contribution, which will be more beneficial than if they claimed a deduction for such a contribution.
Personal services income (PSI) The PSI measures are designed to limit the level of deductions available to certain contractors, whether they are operating as a sole trader or through a company, trust or partnership, and to also extend the PAYG withholding rules in such cases.
A taxpayer that meets certain specified tests such as the 'results' test will be treated as carrying on a personal services business and will be able to claim a wider range of deductions. But such taxpayers need to be aware of the ATO's strict approach to income retention and income splitting (with some exceptions such as for standard 'mum and dad' partnerships).
Non-commercial losses For a business to be commercial under these rules, it needs to meet certain prescribed tests. If the tests are not met, any losses arising from the activities will have to be carried forward and offset in a later year, against future income of the same type or source.
At-call loans A carve-out from the rules applicable to certain related-party at-call loans is available for small businesses that have an annual turnover of less than $20m. The carve-out or exemption applies from 1 July 2005.
Is there anything else? Don't forget the substantiation rules that apply to motor vehicles, travel expenses and WRE claims by employees. Records itemising travel expenses and appropriate receipts for other expenses need to be kept.
Mark Morris CPA is CPA Australia's senior tax counsel.
