It’s that time of year again, and I will no doubt be having the same conversation with many of my children’s friends who are new at lodging tax returns.  They will want my help to get as much tax back as possible and explain why their expectations do not necessarily match the reality of the tax refund.  So, to save time and reach a larger audience, I am writing this for you, the first time taxpayer.

Tax accountants wonder why the fundamentals of tax are not taught in school, but if you are like any other normal kid, I am sure a lesson on tax would have made little impact on your understanding of the Australian tax system.  Your mind would have been drifting off to something much more exciting because let’s face it, tax is boring.  That is until it becomes interesting to you when there might be something in it for you.  Yes, I bet you already have your anticipated tax refund spent.

How is that mystical refund calculated?  I am sure you have plenty of questions all of which are completely normal.  In fact, I am still explaining this to people who have been lodging tax returns for many years.  Tax can be complicated to understand. There are plenty of older people who are as confused by the tax system as you are.  Perhaps you should get your parents to read this as well.

Lodging your first tax return is a very grown up thing to do.  I see many parents taking a step back when it comes to organising your tax return.  It is one small act of responsibility that will set you on a good path as a tax paying citizen.  Lodging your tax return is one of those things you have to do each year.  It does not have to be scary, but if you leave it too long or ignore it altogether it can become an unpleasant experience (like going to the dentist).  Fortunately, in most cases your early tax returns will result in refunds encouraging you to attend to this life task each year.

Let’s break down some myths so you can feel a little educated when it comes time to do your tax.

 

Myth 1 – I hear that you get all your tax back the first time you lodge a tax return

Sometimes this is correct, but the ATO do not see you differently to any other taxpayer in Australia.  You don’t get a special exemption from paying tax just because it is your first time.  Tax is calculated on the total income you have earned for the year.  If you were fortunate enough to have earned income that takes you above the tax free threshold of $18,200, you will be contributing some of your income to the Australian Government in the form of tax.  Many first time tax payers have not earned a lot in their first year, so they may get all their tax back, but it is not a given.

The way your tax is calculated is quite simple in theory.  You calculate all of your income from various sources, including wages, interest, dividends and any work you do as a sole trader on an ABN.  You then take away any deductions that the government allows, and this gives your taxable income.  There is a formula applied to your taxable income to work out how much tax you need to pay.  This is compared to the tax that has already been taken out of your wages.  If you have had more tax taken out of your wages than needed, you get a refund.  If you have had less tax taken out of your wages than needed, you need to pay. This is the same for every taxpayer.

 

Myth 2 – If I buy some thing that I can use as tax deductions, I will get that money back

Not exactly.  A deduction reduces the amount of income that you have earned and this means the amount of tax you need to pay on that income is a little less.  The amount of tax you will get back on your deduction is based on your marginal tax rate (I will explain that later).  If your income is around $30,000 for the year, your marginal tax rate is 19%.  This means you will get back 19% of the expense.

If your income is $18,000 for the year, your marginal tax rate is 0%.  You guessed it you will get back $0 for your tax deduction.  You should never buy anything just for the tax deduction.  There should always be some other reason you are spending your money.  The tax deduction may be an advantage but should not be the only reason you make a purchase.

Your refund will be based on the amount of tax your employer has taken out of your income.  The ATO do not mystically give refunds just because you purchased something.  If your employer did not take any tax out, there is nothing to refund.  The best you can do is get back the tax that has been taken out of your pay.  You will not get any more tax back than that.

 

Myth 3 – My friend got heaps of tax back this year, I should get the same shouldn’t I?

Although tax is calculated using a formula, everyone’s circumstances are different.  Your income and deductions are not going to be the same as your friends, they are unique to you.

It is also possible that your tax is calculated with a slightly different formula to that of your friends.  If you have a Study Assist debt (eg HECS) and you go above a certain income level you will start to pay some of the debt back.  Private health insurance, Medicare Levy and Medicare Surcharge may effect the overall tax calculation.

 

Myth 4 – I think I have earned enough to move into a higher tax bracket. This means I am going to be higher tax on all of my earnings

This is a very common misconception that I discuss with taxpayers all the time.  Tax is calculated on a scale that increases the amount of tax you pay as your income gets higher. However, you only pay the higher tax rate on the income that is earned at the higher rate.

Let’s say your taxable income is calculated at $50,000 for the year.  On the first $18,200 you pay no tax at all.  This is the same regardless of how much you earn.  Between $18,201 – $45,000 you will pay 19 cents in the dollar and then you will pay 32.5 cents in the dollar between $45,001 – $50,000. On top of this you will pay 2% in Medicare levy.   The total of all of this is $7,796 + $1000 (Medicare Levy) = $8,786.   This is very different to thinking you will pay 32.5 cents on all of your income which would mean you would be paying $17,250 in tax.  That would be really bad.

So yes, you will be paying tax at a higher rate, but only on the income that relates to that higher tax bracket.  It is always better to earn more money than less.  There is no reason to reject a higher income because you will be paying a higher rate of tax.

The tax bracket your income falls into is known as your “marginal rate”.  In the case of a $50,000 salary your marginal rate is 34.5 cents (32.5 + 2 cents for Medicare Levy).  This means that any tax deductions will give you back 34.5 cents in the dollar.

 

Myth 5 – I have private health insurance so I should not have to pay Medicare

Medicare is levied on all taxpayers unless your income is very low, or you are exempt for a special reason.  Private health insurances prevents you from having to pay Medicare Surcharge, not the Medicare Levy.

Medicare Surcharge is extra tax that you pay if you don’t have private health insurance and your income is at a higher level.

 

Myth 6My employer is paying my Study Assist Loan (eg HECS) as a deductions from my pay so why is it on my tax return?

Your employer does not know how much you owe on your Study Assist loan, only that you have one (because you have told them hopefully).  They are taking extra tax out each pay to cover this, but the calculation of how much needs to be paid off your loan only happens when your tax return is done.

If you have not told your employer that you have a Study Assist Loan and you earn enough to start paying it back, you will probably end up with a tax bill.  Make sure you tell them so they can take some extra tax out.  It may take a few years to earn enough to start to pay your loan back but the debt will not go away.  It can be a nasty surprise if you have not informed your employer about it and not enough tax has been taken out.

 

Hopefully this has helped your understanding a little but I am sure you will have many questions.  Sometimes it is good to get a little help with your first tax return or take some time to read up on what you can and cannot claim based on the work you do.

The ATO has some excellent guides to help you based on your occupation.  Find the one relevant to you using the link below.

https://www.ato.gov.au/Individuals/Income-and-deductions/Occupation-and-industry-specific-guides/

Finally, remember to be honest in what you tell the ATO and keep records of your receipts or calculations. Get into some good habits and lodging your tax return will be a breeze for years to come.

My previous article was about tax planning for business.  Business is unpredictable and requires planning towards the end of the financial year.  For most individual taxpayers, the tax situation is relatively stable from year to year.  While there are a few tips to help you get the best return, it is best to be planning for your tax all the time, not just at the end of the year.

The reason I say this is that tax deductions need evidence.  Evidence may be in the form of a receipt, a diary entry or a log book.  Tax deductions are usually spread throughout the year, not saved until the last few weeks in June despite what the retail advertisers are claim with their End of Financial Year Sales.

Here are my top tips for individuals tax payers, whether it is the end of financial year or not.  I will not be discussing rental properties as a tax deduction in this article.  This is really based on a simple tax return.

 

1.       Keep your receipts

I can’t tell you how many times I have prepared a tax return and the taxpayer tells me they bought heaps of things for work but didn’t keep the receipts.  The ATO are very clear on this – no evidence, no deduction.  I strongly urge you to download the ATO app on your phone so you can take photos of your work-related receipts to keep track of them.

If you want to claim motor vehicle expenses make sure you are recording your work related trips, or better still, keep a log book.

 

2.       Understand what you can claim

I hate quoting tax legislation but the laws that allows you to claim tax deductions is simple.

8-1(1) 
You can deduct
 from your assessable income any loss or outgoing to the extent that:

(a)   it is incurred in gaining or producing your assessable income; or

(b)    it is necessarily incurred in carrying on a * business for the purpose of gaining or producing your assessable income.

Section 8-1, Income Tax Assessment Act 1997.

It then goes on to say that you cannot claim an outgoing to the extent that is of a private or domestic nature.

Basically, the deduction must have some connection with the income you are earning.  If it is partly private it should be proportioned as such, or is not claimable at all.  The ATO give very good guidance on most types of deductions.  I suggest you look at the Occupation and Industry Specific Guides for your profession at the link below.

https://www.ato.gov.au/Individuals/Income-and-deductions/Occupation-and-industry-specific-guides/

While you may be able to loosely connect an expense to your income, remember that the ATO are not stupid.  Is it really worth claiming something you are not entitled to claim and risk getting caught?

 

3.       Understand when items need to be depreciated

There has been a lot of talk lately about the full expensing of capital assets, but this is only available to business owners.  As a wage or salary earner, or if you are purchasing assets for your rental property, the rules are quite different.  You can only write off an asset in full if it costs less than $300.

This means that going out and buying an expensive asset on 30 June will not give you the great tax deduction you are expecting.  Your claim will be made over a number of years depending on the effective life of the asset you have purchased.

 

4.       Spend some money

Now that you know what is deductible, it may be worth bringing forward some minor expenditure to claim the tax deduction this year.

 

5.       Be generous

There are a number of charities out there who would love you to give them a donation.  If you are making a donation make sure you get a receipt, and make sure they have DGR (deductible gift recipient) status.  Without this, you cannot claim the deduction.  You also cannot claim a donation if you get something for it, such as a raffle ticket, a badge or a teddy bear.

 

6.       Make a personal contribution to superannuation

There is a threshold on the concessional contributions you are making into super each year.  Concessional contributions means that someone is claiming a tax deduction for them (or could be if they were paid on time).   Most of the time the tax deduction is being claimed by your employer as part of your Superannuation Guarantee.  However you can personally top up your superannuation to the threshold ($25,000 in the 2021-22 year).

Additional personal concessional contributions are tax deductible and one of the most effective ways to save tax at the moment.  Check with your employer or on your My.Gov account to see how much super has been paid this year.  You may also be able to access some carried forward unused caps from the previous 3 year.  To find out more read the link below to the ATO information about this.

https://www.ato.gov.au/individuals/super/in-detail/growing-your-super/super-contributions—too-much-can-mean-extra-tax/?page=6

 

7.       Working from home

Many of us have spent part of the year working from home due to COVID-19.  If you want to claim home office expenses you have a few options.  The options really depend on whether you have a dedicated home office room in your house.

If you do, you can claim usage of that room at 52 cents per hour.  You can also claim for office expenses such as part of your internet, printing and stationery and the depreciation of your office equipment and furniture.

If you don’t have a dedicated space (perhaps you are sitting at your kitchen table to work) you can use the rate of 80 cents per hour.  That covers everything – internet, printing and stationery and depreciation.

Make sure you have some record to show how you calculated the hours you worked from home to support your claim.

The ATO will expect to see a change in the deductions claimed for those who have been working differently due to COVID-19. If you have been working from home you probably travelled less and you may need to have a new log book. Think about how COVID-19 may have changed what you can claim this year.

 

8.       Prepay expenses

An individual can claim a deduction for expenses it prepays so long as that expense will be used in the next 12 months.  There may be some upcoming expenses that you can pay prior to 30 June to get a tax deduction this year.

My final tip is to not try to lodge your return too early.  The ATO have an incredible amount of data being fed into their systems so your return can be accurately prefilled with information on wages, interest and dividend income, private health insurance and a host of other items.  This information is not there on 1 July.  The ATO suggest you hold off lodging until the end of July to make sure the prefill information is accurate.

Once again we anticipate increased audit activity from the ATO. Stick within the rules and make sure you have evidence about any claims you are making.

Happy Tax Time.

It is that time of year when business clients require tax planning.  Tax planning prior to April can be rather useless for businesses as most have a level of unpredictability about their performance.  By the end of March we have a reasonable idea of how the business has travelled and can make some predictions on how much tax could be payable and if there is anything we can suggest to minimise this.

May and June have been jam packed with tax planning meetings with my clients.  I thought I would share my approach to tax planning which may help as the financial year draws to a close.

Make sure the accounts are up to date and correct

It may sound obvious but without updated financial accounts it is impossible to do any tax planning.  My first step is to not only check that the accounts have been updated, but to do some mini reconciliations of the accounts to ensure that they are reasonably correct.  Below is a list of the things I find most likely to be misrepresented in the accounts, particularly in the Profit & Loss Statement (P&L) which we use to calculate your tax.

·       Wages and Salaries – your wages & salaries should agree to your payroll reports.  When you run payroll a journal is automatically created recognising your payroll expenses (wages and superannuation) and your liability to pay these wages (either under a Wages Payable, Payroll Clearing or Superannuation Clearing account).  When the wages are actually paid from the bank account they should be recorded against the liability account.

We often see clients record the actual payment of the wages to the wages expense account.  This is double counting of the wages in your profit & loss and will significantly alter the end profit result.  In addition some clients record their drawings as wages, again over stating the expenses.

Check that your wages do agree to your payroll report and if there are some additional transactions in their move them to the correct account.

·       Superannuation – In the same way that wages can be recorded as an extra expense when paid, superannuation is often double expensed.  Make the same check as you would for wages to ensure the superannuation expense agrees with the payroll reports.

In addition, check to see if any of the superannuation you paid is not tax deductible.  If you are unsure about the late payment of super read my article here.  If you have paid late superannuation, unless it was declared AND paid during the superannuation amnesty, your superannuation will not be tax deductible.

·       Income tax payments – while income tax payments are an expense, they are recorded from after tax profits.  Your profit is calculated, the tax is calculated and what is left is your after tax profit.  I often see the P&L being run to include income tax payments which gives a false sense of the business profit position.  Exclude those income tax payments from your calculation, or better still record them to an Income Tax Payable account on your balance sheet.

·       Dividends and Drawings – Like income tax, a dividend is an after-tax item.  You do not get a tax deduction for paying a dividend.  Drawings can also be lumped in as an expense to the business but really should be shown on the balance sheet rather than in the P&L.

·       Loan Repayments – Loan repayments are not tax deductible, they reduce a liability.  The interest on these loans is likely to be tax deductible.  Make sure loan repayments, including those for Equipment Loans or Chattel Mortgages for motor vehicles, are not included in your P&L.

·       Coding of Stimulus money – The two main forms of stimulus money last year are Jobkeeper (which is taxable income) and Cashflow Boost (which is not taxable income).  Both of these items should be shown as income in your P&L.  Many clients have confused these payments or not recorded them correctly.  You may need some help from your accountant or bookkeeper if you are not sure.

COVID Grants in particular can be a reasonable amount of money and should properly be factored into your tax estimates.

Temporary Full Expensing of Assets

Most clients are very aware of the fact that assets can be written off in full this financial year, but I urge you to check your tax return for the prior year as many businesses had already written off their assets in 2021.

Part of the COVID-19 Stimulus Measures were to increase the Instant Asset Write Off to $150,000.  While there have been various changes to the levels of Instant Asset Write Off and the eligibility to access these write offs, if you are a small business you will have had the $150,000 write off available to your business at 30 June 2020.

If you have elected to use the small business depreciation rules you could write off the balance of your Small Business General Asset Pool as at 30 June 2020 if the balance was less than $150,000.  Many businesses were eligible for this last year and wrote off their assets in full.  If that applied to you, unless you have purchased new assets this year, you will not have any depreciation.

If you pool was not written off in full last year, it will be this year.  In fact, the ATO rules do not give us an option.  We must write off the pool balance this year.  For some businesses this will be a significant amount of depreciation.

Understanding how much depreciation will be applicable to you this year will be fundamental to your tax planning.  If you are not sure, ask your accountant.

Paying tax on a Cash or and Accrual Basis

This is another instance where you may need to ask your accountant.  This is also NOT necessarily linked to the way you prepare your Business Activity Statement.

As a small business you can elect to pay your tax on a Cash or an Accrual basis.  If you pay tax on a Cash basis you only pay tax on the money you have received, and claim deductions on the money you have paid during the year.  If you pay tax on an Accruals basis you include the invoices raised for the year (even if they have not been paid) and any Accounts Payable that have not been paid.

If you are using Xero or QBO you can run your P&L reports on a Cash or an Accruals basis so check with your accountant to make sure you are looking at the correct report.  The results can be quite different particularly if you have large swings in your Accounts Receivable balances.

So what is your position?

Now that you have an idea of your Profit and Loss figure, including depreciation, you need to look at any items that are not taxable or tax deductible.

The main non-taxable item is the Cashflow Boost.  While there may be some other small business grants that are non-taxable, assume they are.  Most will be taxable income.

The main non- deductible items are fines, entertainment and superannuation that has not been paid or not paid on time.

Where there any carried forward tax losses from last year?  Check your tax return to find out.  If you do have carried forward tax losses, add them into your calculations.

What is the result?  Is there a profit that will need to be taxed, or a loss?

If there is a loss

Depending on your structure you may be able to get some benefit out of a tax loss.  If you trade out of a company (and this is only relevant for companies) you may be able to access the new Tax Loss Carry Back provisions giving you a refundable tax offset for taxes paid in 2018-19 or 2019-20.  There are a number of conditions to this but the ATO is expecting this to work in conjunction with the Temporary Full Expensing of assets to help cashflow for small businesses.  Your accountant should be able to help you access this rebate at tax time if it is applicable.

If you are trading out of a different structure you probably don’t need to do too much more.

If there is a profit

Let’s face it, we are in business to make money and making money means that we pay tax.  Making a profit is an awesome thing, however you may want to consider ways to minimise the amount of tax you need to pay this year.

Things to consider:

·       Is there anything you need to purchase prior to the end of the year?  If you have been considering getting that new laptop and have the cashflow to do it, maybe it is time to make that purchase.  We see a lot of money changing hands between businesses at this time of year so that tax deductions are maximised.

·       If you have invoices to raise that can be delayed until 1 July, consider delaying them.  Particularly if you pay tax on an accruals basis (although you might find the invoice is paid quickly if someone else is trying to get a tax deduction for it).

·       Look at prepaying some expenses.  The small business prepayment rules apply if your turnover is less than $10 million.  This means that you can prepay expenses that will be used in the next 12 months and claim the deduction now.  Examples could include rent or interest payments.

·       Consider making additional superannuation contributions for the business owners.  There are limits on how much you can contribute to superannuation and specific ways to do this, but seek advice if you are considering this.  You need to make sure any contributions have been received prior to 30 June to be deductible.

If you have a Discretionary Trust

If you use a Discretionary Trust for your business you need to make the decision around how income is to be distributed prior to 30 June.  Even if the trust appears to be in a loss position you should be making that decision now.  You may need some help from your accountant to make this decision, and record it so there is no doubt that the decision was made in this financial year.

One final word on Division 7A

If you have been drawing money out of the business other than as wages, see if you need to repay any of this (or can repay any of this).  If you don’t cover your drawings, your accountant will need to look at how to cover these which will impact the way your taxes are prepared.

If you have existing Division 7A loans make sure the minimum payments have been made.  Again this is something you may need to discuss with your accountant.

You should seek advice

This is quite complicated stuff and any tax planning really should be done with the assistance of a professional but hopefully this gives you an idea of some of the steps I run through for tax planning.  Remember, every business is unique.  There is no one size fits all and the structure of your business, the nature of the business you are operating and the circumstances of the individuals involved will all play a part.

It is a common misconception among small business owners, particularly Tradies, that money withdrawn from the company account can be expensed under the guise of “petty cash”.  I know that small business owners are often dipping into their pockets for bits and pieces, but petty cash is not the correct code for these random drawings of round amount of cash (usually from an ATM)  from your business bank account.  The correct code for withdrawals that do not have supporting documentation to deem them a tax deductible expense is Drawings.

When you think of petty cash you need to picture the locked cash tin. In our office it is an old coffee jar.   Petty cash is as asset, not an expense.  When the tin or jar is started a withdrawal is made, usually for somewhere between $200- $500, and that cash is placed in the jar.  The cash in the jar is known as a float, and the float is an asset.

As you spend this money it should be replaced with a receipt.  At any time, the addition of the receipts in the jar and the remaining cash in the jar should equal the petty cash float.

As the float starts to reduce a reconciliation is done so that you can account for all the transactions that the petty cash has been spent on, and another withdrawal is done to top up the petty cash back to the original float amount.  The second and subsequent top up withdrawals are coded to the appropriate expense account.

As you can see this is very different to taking money out of the bank and skipping the reconciliation process, coding it straight to a petty cash expense account.  There is nothing to show what this money was spent on.  There is nothing to justify to the ATO that the expense is tax deductible.  In an audit situation the ATO would disallow any deductions you have claimed associated with these drawings.

So what should you do?

It is important that any expenses you are claiming are backed up by an appropriate receipt.  Realistically, there is very little need to use cash now.  You can have debit cards for you and your staff to use, or you can reimburse your staff for those unexpected expenses while they are on the road.  If you must give them cash to make a payment make sure you get a receipt and any change so you can account for the expense properly.

The biggest culprit of this type of behaviour is the business owner themselves.  We see Tradies who take out $100-$200 per week as a petty cash expense.  That can equate to around $5,000- $10,000 per year.  If the ATO were to audit a set of accounts with frequent petty cash expenses, they are not going to allow the deduction without receipts to justify the expense.

There are apps available to help you keep track of your receipts by taking a photo of them.  Ask your accountant for suggestions on an app that will integrate with your accounting software.  The days of the regular drawing being anything other than what it really is, a drawing, and getting away with it are coming to an end.  Don’t be caught out.

Cashflow is the lifeline that keeps a small business’s heart beating.  If you have not had cashflow problems you are one of the lucky ones, but for most small business owners cashflow is the key issue that determines a business’s survival.  The anxiety of not knowing when the money is coming in can set the tone of your day, week, month or year.  You are constantly checking your bank account and your mood is attached to your bank balance, or lack of it.   You lie awake a night thinking of ways to find a few extra bucks or make those you have stretch further.  You want to save money, but you need to live on credit while you wait for invoices to be paid – and of course this is costing you money because you have interest to pay.  It is like walking on a tightrope, one little unexcepted surprise and everything will come crashing down.

If you’re a small business that contracts to big business, you may be experiencing cashflow stress because you have to trade on “big business” terms.  In some cases, you not only need to wait for payment on their terms, but also declare that you have paid all your subcontractors and employees before big business will pay you. Factor in any supplies you need to pay for upfront and you are always chasing your tail.

That is why I was both pleased and infuriated when Rio Tinto made changes to their terms of payment last year.

I am pleased because the new terms are good.  They are now re-defining their definition of a small business from someone with a turnover of $1M per year to $10M per year, while committing to pay their small business suppliers within 20 days rather than 30 days.  This will undoubtedly help those suppliers.

I am infuriated because there is still a push from big business to hold back payments to its small business suppliers.  I draw your attention to CIMIC who are one of the largest contractor companies running projects such as West Connex.  This company uses something called Reverse Factoring, which means they hold back payment on their supplier invoices (CIMIC’s minimum terms are 65 days), instead offering a finance company to pay the supplier invoices at an earlier time for a discount.  They are not the only company that reverse factors supplier invoices but CIMIC was a big focus of the media.

This is disgraceful.  The executives who make these decisions are on massive salaries with no understanding of how small business owners operate.  They think it is ok to withhold payment from suppliers for 65 days, or expect you to accept a discount to get what is rightfully yours.  In the media they say that the contractors are happy with these terms, but honestly what other choice do they have?  Big business hold all the power in these contract arrangements with no consideration about the impact they are having on small business owners and their families.

Hopefully pressure from companies like Rio Tinto and Telstra, as well as the government will shame these big business bullies into reducing their payment terms.

Here are some interesting statistics for you, sourced from Xero’s bridge the cashflow gap campaign; https://www.xero.com/au/campaigns/pr/cashflow-gap/.  In the 2019/2020 year 62% of small businesses had encountered late or unpaid invoices.  Close to 25% of small business owners say that they don’t have the operating cashflow to survive 1 month without their current invoices being paid.  $115 billion was paid late by big business to Australian small businesses in 2019.  My personal favourite (which I quote almost daily), if SME (small to medium business) invoices were paid on time it would add $7billion of stimulus to the SME sector.

I realise I talk about this a lot, but collectively we need to speak out about unfair business practices.  We are not big business, but together the SME sector should be a voice that is heard.  We are important to Australia and to the economy.

E-invoicing is on its way.  E-invoicing is a secure network that will allow different accounting software programs to talk to each other.  The invoice you generate from Xero, QBO or MYOB will auto populate into your customer’s software, no matter what system they are using.  The government had committed to pay small business in 5 days once e-invoicing is operating.

It is not just big business who effect our cashflow. I am sure you all have customers who are slow to pay.  There are things you can do to speed up the process of payment but sticking your head in the sand is not one of them.  No one likes having that awkward conversation with a customer about payment.  If cashflow is impacting your business speak with your advisor about what you can do to help get the money in the door quicker.  You have done the work, you deserve to be paid for it on your terms.

Use your voice.  The louder it is the more likely someone will hear it.

I really hate speaking in the ATO language which involves quoting legislation and expecting the Australian taxpayer to understand what they are talking about.  Like Division 7A, there really is no other way to talk about Division 293 but by its name.  We get asked more questions about this than anything else.  If you receive a Division 293 notice you probably have no idea why, and the first thing you will do is call your tax agent.  Perhaps reading this will help to explain it a little more.

Division 293 has been around since 2013.  It was introduced by our politicians to help make our tax system fairer.  The premise is based around the flat tax rate applied to superannuation funds.  Superannuation contributions that are made by your employer or as a personal tax deduction are taxed in your superannuation fund at 15%.  The flat 15% was charged on the superannuation contributions of the 18 year old working a part time job and earning $15,000 a year, as well as the top executives on seven figure salaries.

In order to even things up the government introduced a Low Income Super Tax Offset for the lower income earners, and Division 293 for those high income earners.

If you qualify for the Low Income Superannuation Tax Offset it will be paid directly to your superannuation fund.  The offset is paid to those who earn less than $37,000 and is capped at $500 each year.  It is calculated on 15% of the contributions made to your fund, effectively taking the tax rate back to 0% on those contributions. You do not have to do anything to get this, except lodge your tax return and ensure that your superannuation fund has your tax file number.

Division 293 is a different matter as the tax is levied on you personally rather than your superannuation fund.  Why?  You may prefer to keep your superannuation balance high and pay the tax personally.  The ATO give you that choice.  The assessment will levy an additional 15% tax on the superannuation contribution that have been made, effectively taxing them at 30%

Division 293 is levied on anyone who exceeds the Division 293 threshold of $250,000.  Prior to 1 July 2017 to threshold was $300,000 and this reduction has resulted in many more taxpayers being effected.  The Division 293 threshold is made up of Division 293 income plus Division 293 superannuation contributions.

Division 293 Income

For the full list of what is included in Division 293 income see the ATO website, but essentially it is your taxable income plus any reportable fringe benefits.  You also add back any rental or investment losses, and this is what causes a lot of confusion.  Note, it is not just your taxable income!

Division 293 Superannuation Contributions

For the full list see the ATO website but essentially it includes the superannuation contributions made on your behalf by your employer (superannuation guarantee plus any salary sacrifice or additional contributions) and any other tax deductible contributions that have been made for you, personally or by someone else.

If the combined total of these figures exceeds $250,000, tax will be levied at 15% on your superannuation contributions that are over this threshold.  In many cases your contributions will be the full $25,000 and the extra tax will be $3,750.

A couple of things to note.  This tax is calculated by the ATO after your tax return has been lodged and after the ATO has matched your data with the contributions reported to them by your superannuation fund.  Your tax agent cannot calculate this for you at the time of preparing your tax return as they do not have enough information.  They may advise you that you are likely to get a Division 293 assessment but they will not be able to calculate it.  This is separate to your tax return and will come some time after your return has been lodged.

You can elect for the payment to be made by your superannuation fund.  Once the Division 293 assessment has been made you have 60 days to make this election.  The easiest and quickest way to make this election is using your myGov account.  You fill out the form as instructed and the money will be paid by your superannuation fund.  If you cannot do this the ATO website provides some alternatives.

In most cases the assessment is correct and there is very little we can do to adjust it.  If you do think the assessment is incorrect speak with your tax agent.  They should be able to guide you through the calculations and determine if an error has been made.

Finally, the ATO does provide good information on this so have a look at their website at this link.

https://www.ato.gov.au/Individuals/Super/In-detail/Growing-your-super/Division-293-tax—information-for-individuals/

We see a lot of confusion and anger at this assessment.  Hopefully this explanation will help you to understand what that frustrating letter from the ATO asking you to pay more tax is all about.

I am very much aware that when accountants refer to the Tax Act people’s eyes gloss over, they feel uncomfortable and would prefer to be thinking of anything else.  As soon as a section of the Act is quoted it is like we are speaking in a different language and all comprehension of the issue at hand is lost.  I understand as I too have been in a room of accountants who are quoting legislation (we call it professional development) and I struggle to focus as well.

But there is one important part of the legislation that you need to be aware of and you accountant may have discussed it with you in the past.  It is known as Division 7A because that is the part of the Income Tax Assessment Act 1936 where the details and rules live.

In essence, Division 7A is the legislation that prevents the shareholders from taking money out of their private companies without pay tax on it.  I am guessing that many of you are trading either through a company or a trust.  If that is the case, Division 7A is very relevant to you.  If you are sole trader, or trading as a partnership you can give this one a miss.

If you are trading as a company, the money in the company is technically not your money (yet[1]).  A company is a separate legal entity, so any money in the company belongs to the company.  Many business owners do not see this distinction and they use the company money for their own purposes.  This money is treated as a loan from the business to the owners of the business.

Think about your business – are you paying yourselves a wage (through payroll) and only living on this wage?  Or are you paying yourself a smaller wage to reduce your commitments to superannuation and workers compensation, giving you access to higher rates of family tax benefit and child care assistance, but still drawing money out of the company to meet your daily commitments?  Many business owners do just that, and Division 7A is there to stop this behaviour.

Division 7A prevents money being taken out of the company unless tax is paid on it by the shareholder.

As an accountant it is very difficult to explain this to our clients who believe they are entitled to use the business money for their own needs.  Sometimes it is simple things like paying for your home utilities out of the company.  Possibly a portion of this can be claimed but the ATO do not allow you to deduct your home utilities just because you are in business.  Often cars and fringe benefits reimbursements will increase the amount of the loan, but sometimes it is just lack of budgeting that creates the loan account.  Don’t have enough money to pay for the groceries this week, I will just run it through the company.  Out to lunch with my family and offer to pay for it so it can be a tax deduction?  Your accountant is likely to find these expenses and move them to the loan account. It happens all the time.

How do we address this?  If we notice it happening early enough we will suggest you increase your wages (without physically paying them) so we can cover these loans.  Typically, we are not aware of this at an early enough stage and we will need to draw a dividend from the company to cover the loans.  Dividends are taxable income and while there is usually a tax credit applied to a dividend, your overall income will be higher, you will likely need to pay tax, and you will have underestimated for family tax benefit and child care.

Alternatively, your accountant will set up a complying loan agreement to set the loan onto a commercial footing.  The loan will be repaid with an interest rate advised by the ATO over a 7 year period.  We call these Division 7A loans.

If you are trading from a trust the matter can be even more complicated.  There are many rules in place to prevent the innovative accountant from circumventing the rules.  What you need to remember is if you take the money and use it for personal expenses, you will be paying tax on it.

If you do have a Division 7A issue be guided by your accountant for a solution.  It is complex and it will be a little difficult to get your head around, but a good accountant will assist you.  Better still, try to prevent Division 7A issues by budgeting correctly and not thinking of the company money as your own.  Draw a wage that is sufficient to cover your living needs.  Pay personal expenses from personal money and business expenses from business money.

This is a very simple explanation of a very complex issue.  If you are not sure if this is impacting your business please seek advice from your accountant.

[1] The owners of the company are the shareholders and they do have a right to access the company’s retained earnings by way of a dividend.  Dividends are taxable income. This article is not referring to the payment of a dividend.

Cashflow is one of the biggest issues facing small business.  We all complain about it and get upset at the client who has not made payment, particularly if you have gone out of your way to do a great job for them.  In my business cashflow management is a huge issue as we have a large number of clients and it is very easy to lose control of our Accounts Receivable.  You need to be vigilant.  Take you eye off those debtors and they can very quickly get out of hand.

Money is what makes business happen.  If we don’t invoice our products and services, we don’t get paid and we are no longer in business.  Yet discussing price and payment is a topic that many of us do not feel comfortable with.  I know, because I am one of those business owners who cringes at discussions on pricing and payment.  Debt collection is without doubt my least favourite part of owning a business.

There will always be clients who don’t pay you bills or have difficulty paying our bills, but are we doing the best we can to give our clients the opportunity to pay our bills?  What is your invoicing process?  How easy is it for your client to make payment?

Here are four tips to help your client make timely payments of your invoices.

1.       Use an online invoicing system

Whether you are using Xero, QBO, MYOB or a purpose-built app, there will be the ability to create and send your invoices on the spot.  Honestly, if you are still handwriting your invoices you need to move into the 21st century.  We have mobile technology in our telephones that is infinitely greater than anything we could have imagined 20 years ago (when it was standard practice to hand write or type up invoices).  Everyone who is below the age of 80 (and many who are over the age of 80) has an email address.  Why are you not using the mobile app on your phone or tablet to create the invoice and deliver it (via email) while you are with your client?  I guarantee if you sit down with your accountant for 1 hour to get your invoice program set up, and you genuinely take an interest in learning how to use the program – you will be able to do it.  The investment you make by paying your accountant to help you, taking the time to learn and paying the subscription fees for the software WILL pay off if you embrace the technology.

The faster you get your invoice out – the faster you will get paid.

2.       Attach a payment system

Do you have the option on your invoices to press the “Pay Now” button to allow for fast and easy payment?  If not, why not?  There are many payment apps out there that easily connect to your accounting system to make payment as easy as possible.  Examples such as Pinch (see link to interview below), Stripe, Go Cardless and Paypal are all very simple to set up.  These systems charge you for each payment, so you only pay when the service is used.  In many cases you can get the client to pay the fees, or perhaps you just accept the fees as part of doing business (and getting paid faster).

3.       Consider a card reader so you can get payment in person

The Square card reader is now available at Officeworks so it is fair to say that mobile payment devices are becoming mainstream.  It is a simple mobile app and a small device that allows your client to tap their card while you are out on site.  You can’t get paid much faster than that.  For more details check out their website.

https://squareup.com/au/en/hardware/reader

4.       Debt collection policy

It is important that you have a policy for debt collection, but that policy needs to be followed closely.  Due dates are given for a reason so if the due date has passed, follow up.  There are some people out there who will not pay invoices until they have been followed up (which I personally think is very disrespectful as a customer) but be aware that some of your clients may be waiting for you to chase them because that is their arrogant way of doing business.

As a customer I don’t wait for a follow up to pay my invoices, but I do sometimes forget that something is due and payable.  Maybe the invoice has been sent to one of my staff, so I was not aware it needed to be paid.  Maybe my busy schedule has not made paying an invoice as a priority and I have simply overlooked it.  Maybe you need to do something to get my attention? I am sure in most cases non-payment of invoices is simply due to an oversight.

Whether it be an automated invoice reminder (set up in Xero), a statement, an email or a text – a soft communication method will normally get your invoice paid.   If that doesn’t work a follow up phone call should be made to remind your client that you did something for them and they have not paid for it.  It is not for you to be embarrassed about – they are the ones who have not paid.  There should be no fear in asking for what is rightfully yours.

If you do not feel comfortable making these calls consider a debt collection service.  An example is Chaser https://chaserhq.com/, which is an app that integrates into Xero and provides real follow up on your outstanding debts.  There is nothing wrong with outsourcing the tasks you don’t feel comfortable doing. Your time is valuable so paying someone else to do something you don’t like doing is never a waste of money.

You have done the work and you deserve to be paid for it.  Take this part of your business seriously.  If cashflow is an issue for your business think about what changes you could be making to improve your cashflow.

It is a very common mistake when the January arrives that we get the date wrong.  How often in the past two weeks have we stop ourselves as we write 2019 instead of 2020 in the date.  When we are entering transactions into our accounting software it is very easy to get the date wrong as well.  It happens all of the time.

The best way to stop this from happening is to use the period close options in your software.  This will prevent you from accidently entering your transaction as January 2021 instead of January 2022.  It will not stop you from entering December 2021 transactions as December 2022 but software systems usually give you a warning about this.  So how do you close off a period?

Xero

To close off a period in Xero you will need Advisor level access.  You then select Accounting, Advances and Financial Settings.  Once you are in this section you have the option to Lock Dates. Pick a date that is practical, and remember there are two options – one for all users and one that still allows Advisors to make changes.  I suggest you fill in both sections.

Xero period close.PNG

MYOB

To close a period in MYOB choose Setup along the top of the MYOB program.  Then choose Preferences and pick the Security tab.  This gives you to option to Lock Period.

MYOB Period Close.PNG

QBO

If you are using QBO you will need to go to the Setting icon in the top corner, of the screen. Choose Accounts and Settings, and then pick the Advanced Tab.

QBO period close.PNG

These changes will not prevent you from entering future dated transactions, so keep your eye out in your accounts for these.   There is a future dated report you can run in MYOB but the other programs don’t have future dated reports.

Closing off a finalised period is a great habit to get into, particuarly once a BAS has been lodged or your accountant has finalised your accounts. Hopefully you will find this little tip handy as we grapple with getting the date correct in this new year.

I don’t think a day would go by when we are not asked about PAYG Instalment.  It causes a great deal of confusion and distress for tax payers.  The tax office letters that are issued are written in ATO language which means no one can easily understand them.  Perhaps this will in some way help you to interpret what this is all about.

If you are older you may remember this as “Provisional Tax”.  When the New Tax System was introduced in 2000 the name was changed to PAYG Instalment.  Personally, I prefer to call it Advance Tax – because that is essentially what it is.

Advance Tax is levied on taxable income that is earned outside of your normal wages and salaries income.  Wage and Salary income has tax deducted by your employer, but other sources of income (business or investment income) are only taxed when your income tax return is lodged.   The ATO prefer regular payments of this tax so they call it in, typically on a quarterly basis.  If you are lodging a quarterly Business Activity Statement it will be incorporated in your calculation.  If you do not lodge a BAS you will be issued with an Instalment Activity Statement to make this payment.  If the amount is very small you may elect to pay it on an annual basis, but for the majority of tax payers this becomes a quarterly event.

The tax office base your instalment amount on what they know about you.  That information comes from the last income tax return you have lodged.  The ATO are not aware of any changes in your business activity, or your investments.  It is entirely based on the assumption that if you had to pay tax in one year then you will need to pay the same amount of tax again in the next year.

In the perfect world

In the perfect world (according to the ATO) you would lodge your tax between July and August.  The ATO would be aware of the tax you needed to pay on your business and investment income and work out the appropriate instalment amount. We will use the example of a taxpayer with $8,000 in tax on business income that was payable in the 2019 tax year (as the next couple of years aren’t a great example for steady income).

The ATO will be expecting the taxpayer to earn a similar amount of business income in 2020.  In fact, they anticipate that they will need to pay a little more than that as they expect the business income to increase in 2020 (called a GDP adjustment).  The GDP adjustment for 2020 is 5% so the ATO will expect the taxpayer to be paying $8,400 in tax in 2020.

The ATO will then ask for $2,100 in PAYG Instalment in September 2019, December 2019, March 2020 and June 2020.   When the taxpayer lodges their tax return for 2020 the actual tax for the year will be calculated.  The $8,400 will be deducted from this calculation so they will not have as much to pay at tax time.  If your tax is less than the $8,400 they will get a refund for the difference. Essentially, the tax payments are spread throughout the year rather than having them all paid in one hit.

It is not always a perfect world

There are plenty of variations on the above assumption and often this is where the confusion lies. I will discuss a few of things that can happen and try to explain them.

1.       You do not lodge your return in July / August.  If this is the case the instalment that has been missed will be caught up in the first instalment payment you need to make.  We will use the above example and assume you lodged your return in October.  The first instalment will be on the December BAS and that will be for $4,200, followed by $2,100 in March and June.  The higher first payment causes a lot of stress for many tax payers.

2.       The above example can be very stressful for new business owners who don’t lodge their return until around May.  They will not only receive a tax bill for their 2019 income tax in May, they will also receive a full year of Instalment in June for a similar amount.  Unless they are aware of this and have been setting aside money, the cashflow implications can be immense.

3.       We see more confusion when you are already in the PAYG Instalment system and you lodge your income tax return.  The ATO will send out a letter adjusting your PAYG Instalment amount and it will be based on a combination of what you have already paid for the year, and what you are needing to pay for the year. The letter you receive tells you how much you need to pay for the entire year (which is sometimes a big scary figure) and we suggest that tax payers wait to see what is on the next Activity Statement before they panic too much.

Alternative calculation methods

The ATO will give you the option of how you wish to calculate your PAYG Instalment on the first BAS that is issued with instalment in the income tax year.  The options are to pay the calculated amount, or to pay an amount based a percentage of your turnover.  The percentage you are to use will be provided by the ATO.

The percentage method can be advantageous for business owners who have cycles in their business income.  If the business has high sales, more “advance tax” will be paid.  If the business is not turning over as much, less “advance tax” will be paid.  Note, the calculation is based on turnover not profit so the alignment is not perfect.  The method you use is your choice.

If you do not make a choice the predetermined fixed amount will be applied, even if you have not lodged your forms with the ATO.  There are taxpayers out there who ignore correspondence from the ATO only to find that a number of instalment amounts have been applied to their tax accounts.  This is more common for individual taxpayers who have investment income as they are not preparing regular activity statements. This is often first realised when the debt collectors come chasing.

Can the PAYG Instalment amount be varied?

It can, but is should only be varied if there is a reason for it.  The most common reason is that there is a “significant change” in the business or investment income.  You may also vary your instalment if there is a change in the business structure, or if the business is not continuing.  We suggest you discuss variations to your PAYG Instalments with your accountant.

One note on this, the instalment can only be varied for the current income tax year.  Everything is reset on 1 July.  Unless the ATO know otherwise, the Instalment amount that had been varied is likely to reappear/readjust on your September BAS.  It may need to be varied again for the new financial year if you want the varied amount to continue.

PAYG Instalment is not something to be feared.  It is not a new tax.  It is just a “prepayment” plan for the tax you are going to have to pay at year end.  If you are in any doubt speak with us and we can advise if the instalment still seems relevant to your business performance and guide you if there is a need to revise the amount.  We always suggest setting some money aside for tax on a weekly basis so there is no big shock when those tax bills do arrive from the ATO. Tax is a part of life and a part of doing business.  You only pay tax if you are making money, and ultimately that is what it is all about.