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Borrowing Money In An SMSF

Limited recourse borrowing arrangements (LRBAs) allow an SMSF to borrow money for the purchase of a single asset (or a collection of identical assets that have the same market value) to be held in a separate trust. Investment returns from the asset go to the SMSF and if the loan defaults, the lender’s rights are limited to the assets held in the separate trust. While LRBAs could potentially be an attractive avenue to achieve your retirement goals, the complexity and risks involved mean that forward planning is essential to get the best outcome.

 

Do you have an SMSF and want to grow the assets with borrowings to fund your retirement? An SMSF, or more specifically, the trustees of an SMSF can borrow money but only in very limited circumstances. These include short-term borrowings of 7 or 90 days to cover certain events and more interestingly longer-term borrowings using limited recourse borrowing arrangements (LRBAs).

 

Put simply, an LRBA allows the fund to borrow money for the purchase of a single asset (or a collection of identical assets that have the same market value) to be held in a separate trust. Any investment returns earned from the asset go to the SMSF and if the loan defaults, the lender’s rights are limited to the asset held in the separate trust, which means there is no recourse to the other assets held in the SMSF.

 

Used as a part of an investment strategy, LRBAs can be used to purchase an appropriate growth asset with borrowed funds to maximise the level of benefits available in retirement. It may be a particularly desirable strategy for SMSFs with more modest assets looking to gain access to high-value growth assets or SMSFs looking to increase the fund’s asset base exposure by borrowing.

 

Although LRBAs seem to be an attractive avenue to achieve your retirement goals, there are risks involved including long-term geared exposure to whatever market you have invested in (eg the property market), interest rate risk, potential lack of diversification, liquidity and cash flow. Therefore, the risks to establishing an LRBA need to take into account the circumstances of the fund as well as its investment strategy.

 

Data from the ATO shows the most common asset purchased by SMSFs using LRBAs is property. 

 

A single title block of land acquired under a contract of purchase with an initial deposit and the balance payable on settlement can be funded under a single LRBA. This is also the case for the deposit and balance payable at settlement under a contract for an off-the-plan purchase of a strata titled unit. However, an “option” to acquire an off-the-plan purchase of a house or unit must be funded under a separate LRBA to any subsequent acquisition of the house or unit as the “option” is a separate asset.

 

Notwithstanding the complexity and risks involved in establishing an LRBA, there may also be restrictions on the loan and lender to consider. For example, you as the SMSF trustee or investment manager cannot allow a related party lender to charge the fund more than the arm’s-length rate of interest under an arrangement. You must also be able to demonstrate that the SMSF was not paying in excess of an arm’s length rate of interest to a related party based on reasonably objective and supportable data.

 

Want to find out more?

Before establishing a LRBA, it is vital to plan ahead to avoid any adverse tax or potential stamp duty consequences down the track. Given the complexity involved, detailed advice should be obtained in relation to the borrowing agreement and the establishment of a holding trust. We can help to ensure that the documentation put in place now will elicit favourable tax treatment and prudential compliance in the years ahead.

Can’t Buy Me Love: Conscientious Coupling and Binding Financial Agreements

This is the first article in our series on love and money, where we consider the top tax and financial issues as they apply to our primary relationships and most prized possessions. Love tops the charts as the most popular song theme, but money ranks a close second – and of course the two are intrinsically linked, in pop culture and in life. So let’s take look at when money really does “change everything”.

 

The breakdown of a relationship is frequently ranked second, after the death of a loved one, as one of life’s most stressful events. With a third of all Australian marriages ending in divorce, and similar statistics in other countries, it’s little wonder that “conscious uncoupling” has become the ideal divorce strategy (and not just for celebrities). But the reality for many of us is quite different. So, what if there were a way of limiting the emotional and financial fallout of a relationship split?

 

In fact, there is: by having a financial agreement in place before getting married or moving into together.

 

Romantic? Not really. It’s true that a discussion about the relationship’s possible end isn’t exactly at the top of any couple’s list when planning a life together. But there are many pluses to having an agreement, and it’s unarguably a pragmatic move.

 

Love tops the charts as the most popular song theme, but money ranks a close second – and of course the two are intrinsically linked, in pop culture and in life.

 

A prenuptial (prenup) or cohabitation agreement can benefit you both, fostering better upfront communication about financial matters and helping you to budget and plan a financial future as a couple.

 

It can also provide a hefty ballast for your future financial stability as individuals.

 

In 2016, the Senate Economics Committee undertook a study of gender disparity in financial security and concluded that “a husband is not a retirement plan”. Clearly, a relationship breakdown can leave either party, or both – regardless of their genders – poorer than their married or single counterparts.

So, how can we help you to plan for a “conscientious coupling”?

 

What does this type of agreement include?
A prenup or cohabitation agreement typically covers:

  • assets – what will be treated as marital or defacto assets, such as jointly owned real estate, and what will be treated as non-marital assets (for example, this could be an asset that one party owned before the marriage or cohabitation);
  • division of assets – which assets each person would be entitled to, and in what proportion, if the relationship ended;
  • financial arrangements on the death of one spouse – this can be useful for blended families and where, for example, you want an inheritance to go to a person or an entity other than your relationship partner;
  • future changes – whether the terms will change, for example, if children are involved; whether they are to inherit assets, etc.

Traditionally, these types of agreements are popular where one partner has significantly more assets than the other, or where the partners or their parents have businesses or an inheritance that they wish to retain if the relationship ends. An agreement can help ensure these important things are protected.

 

How do you make the agreement legal?
A prenup needs to be approved by the Family Court of Australia and both parties must have sought independent legal advice. For defacto agreements, we suggest you speak to a lawyer about the possibility of registering your agreement with the Family Courts in the form of consent orders.

 

What about tax?
We recommend that you and your partner each engage lawyers in the drafting of your agreement, but we can help with financial and tax strategy, particularly in more complex areas of tax law, which require some flexibility and skillful forward-planning. Here’s a snapshot of some of the areas to consider.

 

Stamp duties
If property ownership transfer is part of an agreement, then no stamp duty is payable if the property is transferred from one partner to another or sold.

 

Superannuation
Superannuation held by each partner, whether you are entering a marriage or defacto relationship, can also be split by agreement. Self managed superannuation funds (SMSFs) have more flexibility for restructuring than funds regulated by the Australian Prudential Regulation Authority (APRA).

 

Capital gains tax roll-over relief
Capital gains tax (CGT) roll-over relief may also apply. As a general rule, CGT is payable on all changes of asset ownership occurring on or after 20 September 1985. However, if you transfer an asset to your partner as a result of the breakdown of your relationship, there is automatic roll-over relief from CGT in certain cases. This can include transferring assets into or out of a family trust as part of a settlement, as seen most recently in the case of Sandini Pty Ltd v FCT [2017] FCA 287 (22 March 2017).

 

Future and estate planning
Binding financial agreements provide another way to ensure your long-term financial planning goals are not destroyed by a failed relationship, helping to protect your business or inherited family assets. They can be useful in estate planning, too, as they can help achieve some security for people in second marriages or who have children from previous relationships. Provisions for children can be written into an agreement.

 

Need to talk it over?
While it might be an unwelcome topic to think about before it happens, the end of a relationship often forces people into making financial decisions at the worst time. We can help you minimise the possible negative consequences by helping you to plan your agreement and the ongoing management of your tax affairs.

When Is Early Release Of Super Legal

 

Contrary to what illegal early access of superannuation promoters may say, you cannot get your super early to pay for a holiday or buy a car. There are rules that govern when super can be accessed, and usually access can only be obtained at retirement or in exceptional circumstances (compassionate grounds, severe financial hardship, terminal medical condition, and temporary or permanent incapacity). Be very wary of any individual or company purporting to allow you to access your super early when you don’t meet those exceptional circumstances.

 

Most people know that superannuation cannot be accessed until retirement or in exceptional circumstances. What exactly are these exceptional circumstances have caused considerable confusion and allowed unscrupulous individuals to promote illegal schemes to access super early to pay for a holiday or buy a car.

 

To clarify, exceptional circumstances that allow you to access your super early usually relate to specific medical conditions or severe financial hardship. They broadly fall into 4 categories, compassionate grounds, severe financial hardship, terminal medical condition, and temporary or permanent incapacity.

 

Compassionate grounds

Includes the need to pay for medical treatment for yourself or a dependant, to make a payment on a loan to prevent you from losing your home, to modify your home or vehicle for special needs of yourself or your dependant due to severe disability or to pay for expenses associated with a death, funeral or burial. The amount of super that can be withdrawn is limited to what is “reasonably needed”.

 

Severe financial hardship

This condition may be satisfied if you have received Australian Government income support payments continuously for 26 weeks and are unable to meet reasonable and immediate family living expenses. The maximum amount that can be accessed is $10,000 at a time, and you can only make one withdrawal from the fund due to severe financial hardship in any 12-month period.

 

Terminal medical condition

Early access to super may be allowed if you have a medical condition that is “likely to result in death within the next 24 months”. The medical condition and prognosis will need to be certified by 2 different medical practitioners. One of the medical practitioners must be a specialist in an area related to the illness or injury. If you’re accessing your super early due to a terminal medical condition, you should be aware that not all super funds allow for these types of payments. Where your fund doesn’t allow for early access due to this condition, you may be able to rollover your super into a different fund which allows for these types of payments.

 

Temporary or permanent incapacity

Temporary incapacity relates to physical or mental medical conditions which renders you temporarily unable to work (or to work less hours). You will be able to receive the super in an income stream over the time you are unable to work.

 

Permanent incapacity is also referred to as a “disability super benefit” the condition is met when the trustee of the super fund is satisfied that you have a physical or mental condition that is likely to stop you from ever working again in a job you’re qualified to do by education, training or experience. If you would like to receive concessional tax treatment of the early release of super, at least 2 medical practitioners must certify your condition and prognosis.

 

Therefore, unless your circumstances fall into one of the 4 categories above or the balance of your super account is less than $200, you will not be able to access your super until you retire. Be very wary of any individual or company purporting to allow you to access your super early when you don’t meet those exceptional circumstances. If you do go ahead and withdraw your super illegally, you could be hit with a range of penalties and interest charges or even a jail term depending on your involvement.

 

Want to find out more?

Are you going through a tough time and need early access to your super? We can help you identify the best option for your circumstance. If you’ve been contacted or have inadvertently become embroiled in an illegal early release of super scheme, we can help you get the best outcome with the regulatory authorities.

It Follows: Higher Education Debts

 

Horror movie monsters have nothing on the higher education debts which will follow you to the ends of the earth. If you go overseas and you have a higher education debt under the Higher Education Loan program (HELP), Trade Support Loan (TSL) or the Higher Education Contribution Scheme (HECS), you are liable to repay those debts if you earn worldwide income over a certain threshold. This applies to all higher education debts regardless of when they were incurred.

 

It might seem like a horror movie cliché, a monster that follows you wherever you go, but did you know that your higher education debts under the Higher Education Loan program (HELP), Trade Support Loan (TSL) or the Higher Education Contribution Scheme (HECS) debts follow you wherever you go in the world?

 

Prior to 2017, individuals could incur these higher education debts and move overseas with no repayment obligations. However, these debts are now required to be repaid regardless of where you are in the world, as long as your worldwide income is over a certain threshold. This applies regardless of whether your debt was incurred before or after 2017. As long as you have a higher education debt to the Commonwealth of Australia, you are required to repay the debt regardless of where you reside.

 

If you have a higher education debt and plan on going overseas, you will need to update your contact details and submit an “overseas travel notification” if you intend to go overseas for 183 days or more in any 12 months. 

 

This includes for any reason such as holiday, study or work. The 183 days is counted cumulatively and does not have to be taken all at the same time. For example, you could go on a holiday for a few months in one country, come back to Australia for a few months and then travel to another country. As long as it exceeds 183 days in total in any 12 months period you will have to submit an “overseas travel notification”.

 

Once you’ve submitted the notification and have moved overseas, or if you’re already living overseas and have a HELP, HECS or TSL debt, the next step is to report your worldwide income to ATO every year through an Australian tax return. Lodgments are usually due by 31 October each year, but it may be extended if you use a tax agent. For the 2018-19 year, your worldwide income will need to exceed $51,957 before the ATO will raise a compulsory repayment (overseas levy) in relation to your higher education debt. The repayment rate depends on how much worldwide income you earn and range from 4% to 8%.

 

For the 2018-19 year, if your worldwide income is at or below $12,989 you do not have to report your worldwide income but you will need to lodge a “non-lodgment advice form” to notify the ATO of your situation. If you find yourself in financial hardship while overseas and cannot afford the compulsory repayment even though you earn above the minimum repayment threshold, you can apply to the ATO to defer the payment.

 

Remember, you have options when you report your worldwide income to the ATO, you can choose between one of three assessment methods that work the best with your situation, the self-assessment method, the overseas assessment method, or the comprehensive tax-based assessment method. If it all seems too complicated you can always reduce your debt before you head overseas by making voluntary repayments.

 

Need guidance?

If you’re going overseas and you have a higher education debt, we can help you get your house in order and lodge your returns with the ATO while you’re away. We can also help you work out which assessment method is the best for your situation if you’re already overseas and you’re not sure what the best method is.

Taxable SMSF Assets Double: Is Your Fund Affected?

New research has shown the transfer balance cap and reduction of tax concessions for transition to retirement pensions have achieved their policy outcome and made more SMSF assets taxable. This may be considered bad news for the SMSF sector, however, one ray of sunshine to emerge from the research is the policies’ unintentional outcome of improving gender imbalance in SMSF assets and balances. Find out whether your SMSF has been affected and how strategies could be implemented minimise the impact.

 

It’s been a little over a year since the dual changes of the pension transfer balance cap and the reduction of tax concessions for transition to retirement pensions were implemented by the government. Recent research has indicated that these changes has achieved their policy outcome by making almost 25% of previously tax-free SMSF assets lose their status and become taxable.

 

To recap, a pension transfer balance cap of $1.6m applied from 1 July 2017 to limit the total amount of accumulated superannuation that can be transferred to the retirement phase, where the earnings on assets are tax-exempt. The transfer balance cap is indexed but adjustments are unlikely to occur until at least 2023-24.

 

The ATO uses the concept of a transfer balance account to track each person’s net pension amounts against their transfer balance cap. Where an individual’s transfer balance accounts exceed their transfer balance cap, the ATO will issue a determination requiring the excess amount to be removed from retirement phase.

 

In addition, these excess transfer balance amounts are subject to tax, initially at 15% but increasing to 30% for breaches in subsequent years.

 

Similarly, the tax exemption on earnings for pension assets supporting Transition to Retirement Income Streams (TRISs), also known as transition to retirement pensions (TTRs) was removed from 1 July 2017. From that date, earnings from assets supporting TRISs were taxed at 15% instead of 0%. TRISs have traditionally been used by individuals who have reached their preservation age but do not want to retire.

 

According to recent research, at June 2018, one year after the sweeping superannuation changes came in, SMSF asset value in accumulation phase was approximately $422bn. This was a 90% increase from March 2017 (before the changes) when asset value in accumulation was around $222bn.

 

Based on simple modelling (not taking into account of contributions tax, deductible expenses, and rebates), assuming a modest return of 5% on assets for the 2018 income year, this increase of SMSF asset value in accumulation phase would result in $3.2bn worth of tax on SMSF earnings. This equates to a $1.5bn increase from the 2017 year.

 

However, it’s not all doom and gloom for the SMSF sector after the changes, one ray of sunshine in the research is that the changes have led to new strategies being implemented which significantly improved gender imbalance in SMSF assets and balances. Two of the most notable strategies used include:

-contributions splitting which involve a member of an accumulation fund splitting superannuation contributions with his or her spouse to equalise their total superannuation balances to counter the $1.6m transfer balance cap.
-recontributions strategy which involve withdrawal and recontributions to a spouse’s superannuation account to equalise total superannuation balances up to $1.6m each (subject to the non-concessional contributions limits).

 

Are you affected?

Is your fund affected by this? Talk to us today, we may have a strategy to help you reduce the taxable proportion of your SMSF assets. Alternatively, if you’re thinking of commencing a TRIS we can help you navigate the tricky laws around this area and make sure you get the maximum benefit from your hard-earned superannuation.

Super Guaranteed

Paying the right amount of super to your employees can at times be a complex exercise, with the threshold changes in the recent years and the contribution base which changes every year according to indexation factors. With the rise of the gig economy there’s also a grey area as to whether a certain person working for you is actually an employee or a genuine contractor. Find out what your super obligations are this year.

 

Are you paying the right amount of super for your employees? It’s that time of the year again, where the Australian Bureau of Statistics (ABS) release the indexation factors that are critical in determining various superannuation thresholds. While the super guarantee is still frozen at 9.5%, the maximum contribution base will increase to $54,030 per quarter (or $216,120) for 2018-19. Employers are not required to provide the minimum super guarantee for the part of employees’ wages above the maximum contribution base.

 

Besides the part employees’ wages above $216,120, you as an employer, are required to make minimum contributions of 9.5% of an employee’s ordinary time earnings by quarterly due dates to their nominated superannuation funds if you pay the employee $450 or more (before tax) in a calendar month. This is irrespective of whether an employee is full-time, part-time, casual, a family member, company directors, those who receive a super pension or annuity while still working, or temporary residents.

 

You should note that the ATO considers certain contractors that are paid mainly for their labour to be employees for super guarantee purposes. This is the case even if the contractor quotes an ABN. According to the ATO, you as an employer must make super guarantee contributions of 9.5% on what you pay your contractors if they are paid:

 

-under a verbal or written contract that is wholly or principally for their labour;
-for their personal labour and skills which may include physical labour, mental effort or artistic effort; or
-to perform the contract work personally.

 

If you’re not paying the right amount of super for your employees and some contractors, beware, the ATO uses sophisticated data analytics to identify employers at high risk of non-compliance. 

 

It also takes a differentiated approach to compliance and penalties depending on the compliance history of the employer and how actively they engage to meet their superannuation obligations. Therefore, it pays to be in the good books of the ATO as they may take a more accommodating approach should your business have any discrepancies in super guarantee payment to your employees.

 

However, employers who are unwilling to meet their super guarantee obligations should expect the ATO to take firm compliance action including the imposition of penalties such as the super guarantee charge, a Part 7 penalty (up to 200%) for late lodgement of the super guarantee statement or failing to provide information when requested, and an administrative penalty (up to 75%) may also apply for an employer who makes a false and misleading statement.

 

Need help?

If you’re having issues with working out the right super amount to pay to your employees or if you would like to determine whether that person working for you is considered to be an employee or a genuine contractor, we can help.

Beware Of Clothing Deductions This Tax Time

Beware of work-related clothing and laundry expense claims this tax time, the ATO is cracking down on individuals making unsubstantiated and exaggerated claims. It has reminded taxpayers that only uniform, protective or occupation-specific clothing that you are required to wear to earn your income can be claimed as work-related clothing. In addition, laundry expenses can only be claimed in relation to the reasonable laundering (washing, drying and ironing) of work-related clothing and not normal clothing.

 

Have you previously claimed work-related clothing expenses and laundry expenses in your tax return? You should beware this tax time because the ATO is cracking down on clothing and laundry expenses. According to the ATO, clothing claims went up nearly 20% over the last 5 years and last year around 6 million people claimed expenses totalling nearly $1.8bn. In addition, around a quarter of all clothing and laundry claims were exactly $150, which is the threshold that requires taxpayers to keep detailed records.

 

Assistant Commissioner Kath Anderson said: “[we] are concerned that some taxpayers think they are entitled to claim $150 as a ‘standard deduction’ or ‘safe amount’, even if they don’t meet the clothing and laundry requirements…just to be clear, the $150 limit is there to reduce the record-keeping burden, but it is not an automatic entitlement for everyone”.

 

So what can you claim under work-related clothing and laundry expenses? First of all, work-related clothing must be for uniform, protective or occupation-specific clothing that you are required to wear to earn your income, and you must be able to show that you have spent the money. Normal clothing such as suits and dresses cannot be claimed as work-related clothing. This is the case even if you have been told by your boss to wear a certain colour (ie white shirt and/or black pants), or items from the latest fashion clothing line, or if you bought the item specifically for work and do not wear it anywhere else.

 

If you’re claiming expenses for laundry, you should note that you can only claim laundry expenses for work-related clothing (ie uniform, protective, or occupational specific clothing). Again, normal clothing does not count. To calculate the laundry expense (including washing, drying and ironing), the ATO uses the figure of $1 per load if the load is made up only of work-related clothing, and 50c per load if you include other laundry items. If you claim laundry expenses for work-related clothing, you may be required to show how often you wore the clothing including evidence of number of shifts and weeks worked per year.

 

To assist in weeding out dodgy work-related clothing expenses and laundry expenses this tax time, the ATO will be using sophisticated analytics on every tax return to identify unusual claims. This includes comparing taxpayers to others in similar occupations earning similar income. If a “red flag” is raised by the analytics, the ATO will investigate the amounts claimed, which may be as simple as checking whether you are required to wear uniforms, protective clothing, or occupation specific clothing with your employer. The ATO warns those taxpayers who are unable to substantiate their claims should expect to have them refused, and may be penalised for failing to take reasonable care.

 

Want to find out more?

Are you required to wear work-related clothing and not sure how to calculate a claim? Or maybe you have laundry expenses for work-related clothing and are unsure what the reasonable amount to claim is? We can help you navigate the treacherous waters this tax time.

Starting a Small Business? Don’t Become a Statistic

There is something irresistible about starting a small business that has captured our collective imaginations, with small businesses making up 97% of all Australian businesses. But unfortunately, over half of these fail within the first three years. So how can you stop your business from becoming a statistic?

 

Regardless of what type of business you are planning – be it an online or home business, or a start-up with grand plans for expansion, it is easy for a fledging business to be swept up in the excitement of the early days, while neglecting some of the less compelling factors that are essential to success. We take a closer look at the essential financial and tax factors to get your business off the ground and keep it running.

 

The top reasons small businesses cease trading are due to under-capitalising, poor cash flow management, and failing to undertake adequate market research. Whilst there is a lot of helpful information online, nothing replaces getting expert advice on how all the facets of the business will interact – from financing, tax management, supply chain costs, and market fluctuations.

 

Before starting your business talk to us about the following:

Running a financial health check

Prior to seeking investment, taking out a loan, or redrawing against an existing mortgage or other loan, it is important to have a clear picture of your financial status. Do you have debts? What are your living expenses? What about personal spending? How much do you spend on eating out, travelling, and discretionary purchases? What are you prepared to go without to budget for a leaner life? We can help you take stock and then plan.

 

Researching financing options

There are a variety of finance sources available: such as bank loans, credit cards, public donation platforms – crowdfunding, angel investors, venture capitalists, lump sums for redundancy payments or inheritance, and borrowing from family or friends. All of these options have different pros and cons in relation to costs (eg, for a credit card) and risk (eg, putting your house up for security). It is wise to choose carefully as your choice of funding will have an impact on your personal finances now and down the track.

 

Up and running?

Once you have established the business we can help you to manage the following:

Taxes

There are a number of costs that are tax deductible when you set up a business, including a number of incentives to help small businesses, but these will vary depending on your circumstances.

 

Capital costs

A capital cost is incurred where you purchase an asset that allows you to produce income. It could take the form of buying equipment, but it could also be costs for creating an e-commerce platform. Such costs are not usually tax deductible, unless they can be depreciated over a number of years, or if you qualify for the simple depreciation rules for small business. For instance, if your business has a turnover of less than $10 million you can instantly write off assets costing less than $20,000 each, which means an instant boost to your cash flow.

 

If you purchase an asset worth more than $20,000, you are able to place the cost in the “small business general pool” to claim depreciation over time. Whilst you don’t get money back instantly, it can benefit you in that depreciation rates for the pool are generally higher than the rates for individual assets. And, if the value of the pool drops below $20,000 you can claim it as an instant write off.

 

Note: Capital costs of educational course fees are not eligible for deduction because the qualification was required to set up the business, eg, to train as a doctor, or to become a fitness instructor.

 

Fees and other costs

You can also claim the following:

-lawyer and accountant fees for professional advice on starting a new business;
-government fees paid in the formation of the business structure, ie ASIC;
insurance;
-borrowing fees and other costs associated with setting up the business structure, aside from government fees, can be claimed as a tax deduction over a five-year period.

 

If your business meets the annual turnover test of $20,000, and the start-up and the running costs are higher than your income, the loss may be deductible against other income you earned in the financial year.

 

GST and funding sources

Financing sources also have different indirect tax implications. For instance, crowdfunding – most commonly used by start-ups who need seed capital – is gaining popularity in Australia. The GST treatment of crowdfunding for a promoter operating in Australia may vary according to the following factors:

-the model adopted and what supplies (if any) are made to the funder;
-whether the promoter is registered for GST, or required to be registered;
-whether the promoter makes supplies that are connected with Australia; and
-whether the funder is in Australia.

 

Providing a service?

Are you running a personal service business (PSB), or earning personal service income (PSI), or both? These attract different tax rules and it’s essential that you know which rules apply, but identifying your PSI/PSB status accurately can be complex.

 

Hiring employees?

If you are considering hiring staff you will be responsible for meeting a number of obligations, such as:

-withholding of taxes from wages and reporting and paying these amounts to the ATO;
-pay superannuation for eligible employees (including contractors in some circumstances);
-register, report and pay fringe benefits tax (FBT) if you provide your employee with fringe benefits, (eg, car, travel, or meal expenses) which are paid to employees as part of, or in addition to, their wages.

There are naturally many other factors to consider when starting your own business, but we can help you to build a sustainable enterprise by taking care of those, less exciting but critical elements, leaving you to focus on future plans.

Your Business Website: Are the Costs Deductible?

 

Setting up, maintaining and modifying a business website can involve significant costs. When considering whether spending related to a website is tax deductible, business owners need to take into account Taxation Ruling TR 2016, which sets out the Commissioner of Taxation’s views for the purposes of the Taxation Administration Act 1953.

 

Taxation Ruling TR 2016/3 discusses the deductibility of expenditure on a commercial website (as generally applies to income years commencing both before and after 14 December 2016). It is a significant ruling that has the potential to affect every business in Australia that has a website.The first issue the ruling addresses is to identify what qualifies as a “commercial website”. The Commissioner’s view is that a commercial website is one used in the course of a business, irrespective of whether it is used directly to produce income.

 

The ruling explains that such a website is an intangible asset of the business, consisting of software installed on a server or servers and connected to the internet. Software provided on the website for installation on the user’s device is not considered part of the website, but the content available on that website is part of the website (unless the content has an independent value to the business). Hardware, such as a business server or computer, and the right to use the domain name are not considered part of the website.

 

In terms of how expenditure on a commercial website is treated, the website is not a depreciating asset, except to the extent it can be classified as “in-house software”. Accordingly, the ruling focuses on the deductibility of expenditure under s 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997). Under this provision, tax deductibility depends on whether the expenditure is revenue or capital in nature.

 

The ruling explains the treatment of a range of common types of business website expenditure, including:

 

–acquiring or developing a website: this type of expenditure is capital in nature;

 

–maintaining a website: this expenditure is revenue in nature, and includes expenditure on modifying the website, as long as the modifications do not alter the website’s functionality, improve its efficiency or extend its useful life (in which case the expenditure may be capital instead) – this capital/revenue distinction is a matter of “fact and degree” according to the ruling; spending on a routine modification with minor enhancements is more likely to be considered revenue, but spending on substantial modifications or changes as part of a program of work is more likely to be considered capital;

 

–periodic operating, registration, web hosting and licensing fees: this type of expenditure is deductible over the period the expense relates to (eg a year’s hosting fees are deductible over that 12 months);

 

–software: if the software qualifies as “in-house software”, the special depreciation rules in Div 40 of ITAA 1997 apply, but if it is not “in-house software”, the expenditure’s tax treatment depends on the nature of the asset – the ruling states that the cost of periodically licensed “off-the-shelf” software is a revenue expense; and

 

–regular upgrades to existing website software: this type of expenditure is generally considered “operational” in nature and is therefore deductible.

 

Under the ruling, a business’s social media presence is a capital asset, and separate from the business’s website, but if the cost of setting up the presence (eg a profile page) is trivial and the profile is maintained mainly for marketing, the expenditure is revenue in nature. The Commissioner’s view on other considerations are also set out, including the cost of domain names, the cost of leasing a website, and the possibly depreciable status of any copyright held by the website owner.

 

Although labour costs are usually on revenue account, they may be of a capital nature if there is a direct link between the employee or contractor in question and a capital asset, for example where the employee or contractor is engaged to develop a business website.

 

Finally, if expenditure on a commercial website is not deductible under s 8-1 of ITAA 1997 or the capital allowances rules, then the capital gains tax (CGT) regime will recognise it as part of the cost base of a CGT asset. It is unlikely that a deduction will be available under the “blackhole expenditure” provision in s 40-880 of ITAA 1997.

 

Need to know more?

The ruling makes it clear there are plenty of factors to take into account when establishing if you can claim the costs of setting up and running a website for your business. If you want to know more, contact us to talk about how the ruling could affect your business’s tax deductions.

 

Avoid an ATO Audit: Your Essential Guide to Small Business Benchmarks

The Australian Bureau of Statistics recently estimated that unreported business income totals around $24 billion, or 1.5% of our nation’s gross domestic product. To reduce the amount of money circulating under the radar, the ATO constantly monitors the cash economy to ensure small business owners report all of their income. Small business benchmarks are one set of tools the ATO uses to do this. Understanding how the benchmarks apply to your business can help you keep the right records and avoid an ATO audit.

 

Small business benchmarks explained
Small business benchmarks are financial ratios the ATO uses to compare the performance of your business against similar businesses in your industry. It calculates them from the income tax returns and business activity statements of over 1.3 million Australian small businesses. The ratios include figures such as cost of sales, labour, rent and materials, given as percentages of business turnover.

If your business falls outside the benchmarks, you may be flagged for an ATO audit. However, benchmarks can also be useful for finding out how your small business compares to others in your industry, and whether you could benefit by reviewing your business costs or prices.

 

Small business benchmarks can be a valuable resource for small business owners who want to optimise their pricing and overheads. They can also be the best way to ensure that your business is audit-proof.

 

How small business ratios are calculated
Small business benchmarks reflect the financial performance of businesses with turnovers of up to $15 million, across over 100 industries. Each benchmark ratio is published as a range to account for the variations between businesses that arise from factors such as business models, locations and regions.

 

Three different turnover ranges are provided for each industry. For instance, if you own a courier business with annual turnover of $250,000, the applicable business ratios are in the $150,000 to $300,000 range.

 

The ATO identifies a key benchmark ratio for each industry. In the catering industry, for example, this ratio is cost of sales to turnover; for courier services, it is total expenses to turnover. The ATO considers this ratio the most accurate indicator of cost of sales or expenses versus turnover.

 

A detailed overview of how small business ratios are calculated can be found on the ATO website.

 

Industry classifications
The ATO will use the business industry code and the business activity description in your tax return to determine your industry benchmark. Key words in your business activity description and trading name also tell the ATO which industry subgroup(s) your business falls into.

 

A business can fall into more than one industry subgroup, which allows for the fact that some businesses have diverse product lines. For instance, if you run a meat and poultry retailing business, its performance should be compared against benchmarks for both the meat retailing and fresh poultry retailing industry subgroups.

 

When you receive your tax information from us, it’s important to check that the industry code and description in your tax return accurately reflect your type of business. If not, you should let us know immediately to have it changed.

 

Types of benchmarks: performance versus input
There are two types of benchmark that the ATO monitors.

 

Performance benchmarks
These benchmarks use a number of different ratios to check your business’s performance against other businesses in your industry. They help the ATO identify any businesses that may not be reporting all of their income. Performance benchmarks include:

-income tax ratios such as cost of sales to turnover, total expenses to turnover, and rent to turnover; and
-activity statement ratios, including non-capital purchases to total sales, and GST-free sales to total sales.

 

Input benchmarks
Input benchmarks apply to tradespeople who purchase their own materials to perform jobs for household customers. These benchmarks show an expected range of income based on the total cost of labour and materials used.

 

They are calculated from information provided by trade associations and other industry participants. For example, the West Australian Solid Plastering Association helps the ATO set input benchmarks for plasterers who work with domestic customers.

 

Benefits of small business benchmarks
Any business owner who has experienced an audit knows it can be a stressful experience that will often stretch on for months. Looking at small business benchmarks can be an effective way to check that your tax records accurately reflect your business’s income and costs.

 

As well as helping the ATO monitor the cash economy, input benchmarks can help sole traders set their prices. For example, a painter can check how their current prices compare against the industry’s per-square-metre or per-hour price benchmarks, which are based on information that Master Painters Australia provides to the ATO.

 

Keeping track of your business
It’s important to check your benchmarks regularly throughout the year. The best way to do this is to review your financial ratio reports – talk to us if you’d like more information about how to obtain them.

 

It’s also a good idea to talk to us about how your business is performing against your industry’s benchmarks. This should be analysed when we prepare your tax return at the end of the income year, or at the end of every BAS quarter if you are registered for GST. If any figures are outside the benchmark ranges, we can give you guidance on how to fix the problem.

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