Lower company tax rates and imputation

As illustrated in the following table, company tax rates are falling in Australia.

Income tax year  Turnover less than Company tax rate
2016 $2 million 28.5%
2017  $10 million 27.5%
2018 $25 million 27.5%
2019-2025 $50 million 27.5%
2026 $50 million 26%
2027 $50 million 25%

Under the law current at the time of writing, companies that are carrying on a business and have turnover of less than $25 million will be subject to company tax at a rate of 27.5% in 2018 (ie company tax will only be at the rate of 30% in 2018 if turnover is $25 million or more, or the company is not carrying on a business).

The rate at which dividends will be franked in 2018 will depend on whether the company's turnover in the previous year (2017) was less than the current year's turnover benchmark ($25 million for 2018).

That is:

  • if the 2017 turnover was less than the 2018 turnover benchmark, the 2018 dividend will be franked at 27.5%; and
  • if the 2017 turnover was equal to or more than the 2018 turnover benchmark, the 2018 dividend will be franked at 30%.

Company profits may therefore be taxed at different rates from the rate at which dividends are franked. This disparate tax treatment can lead to either:

  • over-franking of dividends (eg if company profits are taxed at 27.5% but franking is done at a rate of 30%), in which case certain actions need to be taken to avoid the imposition of franking deficit tax; or
  • under-franking of dividends (eg if company profits are taxed at 30% but franking is done at 27.5%), in which case franking credits may become trapped and may not be usable.

Further amendments, contained in the Treasury Laws Amendment (Enterprise Tax Plan Base Rate Entities) Bill 2017, may soon affect the way companies and shareholders receiving dividends are taxed and how franking will be done. The Bill proposes to amend the tax law to ensure that a company will not qualify for the lower company tax rate if more than 80% of its assessable income is passive income (such as interest, dividends or royalties). The amendments would modify the requirements that must be satisfied for a corporate tax entity to qualify as a base rate entity, replacing the "carrying on a business" test with a "passive income" test. The Bill has been passed by the House of Representatives and is before the Senate at the time of writing.

Deductions for small business entities

Businesses that are small business entities (companies, trusts, partnerships or sole traders with total turnover of less than $10 million) will qualify for the following raft of tax concessions in the 2018 income tax year:

  • the $20,000 instant asset write-off – an immediate deduction when buying and installing depreciating assets that cost less than $20,000.
  • the simplified depreciation rules – accelerated depreciation rates of 15% or 30% for depreciable assets that cost $20,000 or more;
  • the small business restructure rollover;
  • an immediate deduction for start-up costs;
  • an immediate deduction for certain prepaid expenses;
  • the simplified trading stock rules – removing the need to do an end-of-year stocktake if the value of the stock has changed by less than $5,000;
  • the simplified PAYG rules – the ATO will calculate PAYG instalments;
  • cash basis accounting for GST – the ATO will calculate the GST instalment payable and annual apportionment for input tax credits for acquisitions that are partly creditable;
  • the FBT car parking exemption (from 1 April 2017); and
  • the ability for employees to salary-sacrifice two identical portable electronic devices, such as laptops (from 1 April 2016 to align with the FBT year).

These concessions are very powerful for small businesses, and if applied correctly, can lead to substantial tax savings.

The $10 million turnover threshold does not apply for the small business CGT concessions. To qualify for the small business CGT concessions, businesses must still have an annual turnover of less than $2 million, or satisfy the $6 million "net asset value" test.

$20,000 instant asset write-off

Small business entities that make eligible purchases of less than $20,000 and use or install the new or second-hand depreciating asset ready for use before 30 June 2018 will be able to instantly claim a tax deduction for the cost of that asset in the 2018 income tax year.

Assets costing $20,000 or more can be pooled in a general small business pool, treated as a single depreciating asset and depreciated at:

  • 15% for such assets acquired during the 2018 income tax year; and
  • 30% for the 1 July 2017 opening written-down value balance of the assets in such a pool.

Whether GST should be included in working out whether the $20,000 threshold is met depends on whether the purchaser is registered for GST:

  • If the purchaser is registered for GST, the GST-exclusive amount is the cost of the asset.
  • If the purchaser is not registered for GST, the GST-inclusive amount is the cost of the asset.

Originally, 2018 was to have been the last year taxpayers could claim the $20,000 instant asset write-off. However, in its 8 May 2018 Federal Budget the Government has proposed to extend this write-off by another year. This means that from 1 July 2019 the instant asset write-off threshold will revert to $1,000 a year.

Immediate deductibility of start-up costs

Small businesses started this year will be entitled to an immediate deduction for all start-up costs (eg lawyer and accountant fees, costs of company constitutions or trust deeds) incurred in the 2018 income tax year.

Small business restructure rollover

Small business entities can restructure their operations (eg changing the business structure from a company to a trust, or from a sole trader to a trust) without income tax consequences (ie no income tax consequences on transferring depreciating assets, revenue assets, trading stock or CGT assets between the different restructured entities).

The most appropriate structure for a small business (company, trust, sole trader, partnership or any combinations of these) may change over time, so this new rollover is welcome and will help businesses seamlessly restructure to suit their needs.

Claiming small business CGT concessions can be tricky

Broadly, if a business is being sold that has an aggregated turnover of less than $2 million (ie it is a CGT small business entity) or the value of its net CGT assets is $6 million or less (ie it satisfies the $6 million "net asset value" test), the business may qualify for the small business CGT concessions.

Depending on the particular circumstances, if the business is expanding rapidly and may be at risk of breaching the $6 million net asset value threshold, the owner may consider selling the business before this breach occurs, while the sale of the business is still eligible for the small business CGT concessions.

The small business CGT concessions include:

  • a 15-year exemption – no CGT is payable;
  • a 50% active asset reduction – a 50% CGT discount in addition to the 50% general discount;
  • the retirement exemption – up to $500,000 lifetime tax-free limit; and
  • the active asset rollover – minimum two years' deferral.

At the time of writing, the Treasury Laws Amendment (Tax Integrity and Other Measures) Bill 2018 is before the House of Representatives. It proposes to restrict access to the small business CGT concessions from 1 July 2017 onwards to only the sale of:

  • assets that were actually used in the small business – meaning no CGT concession on the sale of assets not used in the business; or
  • shares or units in companies or trusts that are also small businesses – meaning no CGT concession on the sale of shares or units in an entity that is not a small business.

Taxpayers who intend to claim the small business CGT concessions in 2018 will need to consider whether they would be eligible for the concessions under the new law, if it is enacted.

General business issues

Beware of private company loans and unpaid trust distributions

The shareholders of companies operating businesses sometimes treat their companies as their own piggybank by making drawings from the companies to either fund other business interests or their private lifestyle.

Such cash advances need to be documented with a complying loan agreement that requires minimum principal and interest repayments at the benchmark interest rate by 30 June; otherwise they will give rise to a deemed dividend under Div 7A of Part III of the Income Tax Assessment Act 1936 (ITAA 1936).

Care must also be taken when a private company makes a loan or payment or forgives a debt of a shareholder (or a shareholder's associate) or if a trust declares a distribution to a private company without the cash payment to the company; such unpaid present entitlements (UPEs) made after 16 December 2009 by a trust to a company may be treated as either a loan by the company to the trust or remain a UPE (if put on sub-trust).

Apply look-through treatment to earnout rights

If a business was sold in the 2018 income tax year subject to an earnout arrangement where the sale price is paid in instalments (if future performance markers are satisfied), the capital gains are recognised in the income year that the business was sold. This look-through approach not only defers the taxation of the capital gain on the earnout, but may also allow the financial benefit arising from the earnout to potentially qualify for the small business CGT concessions (ie the instalments paid after the sale will form part of the same CGT event as the original sale).

Review trust deeds and make trust resolutions

Trustees must make valid distribution resolutions before 30 June (or an earlier date if specified in the trust deed) to distribute trust income to eligible beneficiaries. If trustees fail to make valid distribution resolutions before 30 June, the trustee can potentially be assessed on all of the trust's net income at the top marginal tax rate (45%).

Beneficiaries must quote their tax file number (TFN) to trustees before a trust makes a distribution to them for the first time. Failure to do so will result in the trustee withholding tax of 47% (the top marginal rate plus the Medicare levy) from all future distributions to the beneficiary.

To ensure that valid trustee distribution resolutions are made, the terms of the trust deed must be complied with.

For example, if the trust deed defines trust net income as equal to taxable net income, but the trustee resolves to distribute only accounting income to beneficiaries, this resolution may not be an effective distribution of trust income (in part or whole) – and it may result in the trustee being assessed at the top marginal tax rate (45%).

Since the exact trust net income will not be known by 30 June, trust distribution resolutions should be made distributing different percentages to beneficiaries (adding up to 100%), or distributing specified dollar amounts to certain beneficiaries and the balance to a default beneficiary.

Review bad debts and obsolete plant and machinery

Unpaid debts should be reviewed to determine the likelihood of not receiving payment of these debts and whether attempts to recover the debts will be successful. It is important to keep documentation as evidence where the debt is considered to be non-recoverable. If the debt is irrecoverable and income is reported on an accruals basis, the debt can be regarded as a bad debt for which a tax deduction may be claimed. This process must occur before 30 June.

It should be ensured that these bad debts have not been forgiven – forgiven debts do not qualify as bad debts.

This same methodology should be applied for plant and machinery. Review asset registers to identify obsolete plant and machinery, and be sure to scrap it (ie physically dispose of it). A deduction can be claimed for the written-down value of such assets.

Value trading stock at the lower of cost, market value or replacement value

The valuation of trading stock at year-end may impact on the amount to be included in assessable income for the 2018 income tax year. Because a lower closing value for trading stock may result in a lower taxable income, taxpayers have the choice of valuing trading stock on hand at 30 June at the lower of cost, market value or replacement value.