Taxation Law Assignment Analysing Case Scenarios Based on Tax Law
Task: This taxation law assignment consists of six (6) questions and is designed to assess your level of knowledge.
Taxation Law Assignment Question 1
For tax purpose, in what circumstances are individuals and companies treated as residents of Australia? Explain based on the theIncome Tax Assessment Act 1936 (Cth) and relevant caselaw.
Individuals – Residency Status
In the following circumstances, the individuals would be categorised as tax resident of Australia in accordance with ss. 6-1 ITAA 1936 along with Tax Ruling TR 98/17.
A domicile holder of a foreign country would be tax resident of Australia is he/she is physically present in Australia for atleast 183 days within the tax year being assessed – 183 day test
An Australian domicile holder not physically present in Australia would be termed as Australian tax resident if during the stay, no foreign permanent place of abode is established. An exception to this has been indicated as per FC of T v Applegate (1979) as per which a continuous stay of 2 or more years abroad would automatically imply shifting of permanent abode – Domicile test
For a commonwealth employee who is abroad, contribution to defined superannuation funds would imply tax residency of Australia – Superannaution test
A domicile holder of a foreign country may be tax resident in Australia based on purpose of visit, behaviour during stay in Australia, social life and intention to stay in Australia. For taxpayers with significant purpose such as education and employment, normal social life, strong –professional or personal ties in Australia, the tax residency would be Australia – Reside test
Companies – Residency Status
The following circumstances would result in Australian tax residency in accordance witgh ss. 6-1 ITAA 1936.
Incoproation in Australia
For foreign incorporated companies, Australian tax residency would result if they have some operations in Australia and fulfil atleast one of the following two conditions.
Condition 1: Majority voting power resting with Australian resident shareholders
Condition 2: Central management and control vesting in Australia
Referring to relevant statutory provisions and common law, discuss whether the following amounts would be as an allowable deduction against assessable income.
Provision of doubtful debts of $4,200 for a detective agency.
Speeding fines of $ 700 paid by an owner to a driver.
An amount of $1,000 paid to a solicitor for preparing a partnership deed.
Travel cost of a business executive to attend a trade fair in Munich paid by the employer.
Newspapers purchased by an accountant who advises clients on financial and investment matters.
Answer: For the deductibility of bad debts, s. 25-35 indicates the following conditions to be met.
Bad debt must be actually written off rather than provisions made for the same.
The amount written off should be recognised as revenue/income previously For the detective agency, there is no write off of $4,200 and thereby no deduction can be claimed.
Section 26-5 ITAA 1997 lists down a host of non-deductible expenses. One of these relates to any speeding fines even though the underlying travel may be directed related to assessable income generation. Considering this, no deduction may be alcimed for the speeding fines of $700.
Section 8-1 indicates that any expense or outgoing having sufficient nexus with the assessable income generation is deductible provided it is not capital in nature. Thus, the key issue is to outline if the solicitor related expense is capital or revenue. The key aspect to consider would be the advantage which the taxpayer has derived from incurring the expenditure. The expenditure leads to partnership formation and thereby the benefits would be long lasting. Such benefits are associated with capital expenses as highlighted in Sun Newspaper vs FCT (1961). Deduction for this expense under s.8-1 is not allowed. However, claim for this amount over a 5 year period may be made under black hole expenditure s. 40-880.
The details provided reflect that all expenses related to the Munich Trade Fair are borne only by the employer. Since there are no outgoing on the part of employee, hence no deductible expenses for the employee. However, from the perspective of employer taxpayer, the incurred expense on trip and fair would be business expenses and thereby deductible under s. 8-1 ITAA 1997.
The taxpayer is the accountant who provides financial advice to client with regards to investment. Considering the nature of profession and activity from which assessable income is being derived, the nexus between newspaper and the assessable income can be easily established. The news provided by the newspaper is significant to ensure that that the accountant provide relevant advice to clients. Hence, the underlying amount spent on newspaper would be deductible under s.8-1.
RK Co purchased a machine on 1st November 2020 at the cost of $110,000 (inclusive of GST) and exclusively used it to manufacture for the Co’s production. The machine’s effective life is ten years.
Andy purchased a Toyota car and use it 100% for business purpose on 1st October 2020 at the cost of $74,000 (inclusive GST), estimated to have a useful life of twelve years.
Required: With reference to relevant legislation and case law, discuss and calculate what amountis allowed as a deduction for the decline in value of the machinery and the car discussed above, using both prime cost and diminishing value methods.
Answer: In accordance with general deduction clause (s.8-1), the amount claimed as decline in value is deductible by the business to the extent that the underlying asset has been used for producing assessable income.
Prime Cost Method (s.40-75 ITAA 1997): Decline in value =Asset cost (excluding GST) * (Days of business use/365)*(100%/Effective asset life)
Diminishing Value Method (s. 40-70 ITAA 1997): Decline in value= Asset cost (excluding GST) * (Days of business use/365)*(200%/Effective asset life)
Underlying depreciable asset is machine which has 100% business use. Even though there is 100% business use the total days of use for the year ending on June 30, 2021 would be from November 1, 2020. Effective machine life is given as 10 years.
Decline in value as per prime cost method = ($110,000*10/11)*(242/365)*(100%/10) = $6,630.14 Decline in value as per diminishing value method = ($110,000*10/11)*(242/365)*(200%/10) = $13,260.27
Underlying depreciable asset is car which has 100% business use. Even though there is 100% business use the total days of use for the year ending on June 30, 2021 would be from October 1, 2020. Effective car life is given as 12 years.
Decline in value as per prime cost method = ($74,000*10/11)*(273/365)*(100%/12) = $4,193.03 Decline in value as per diminishing value method = ($74,000*10/11)*(273/365)*(200%/12) = $8,386.05
Andrew and Piter are paterners, carrying on a business as a partnership. The partnership agreement provides that Andrew is to be paid an annual salary of $40,000. The balance is to be distributed equally between Andrew and Piter. The partnership agreement also provides that the partners are to share the losses equally in the case of losses. The partnership’s assessable income for the income year is $100,000. Deductible expenses are $120,000.
What are the tax consequences for the partnership and each partner?
Answer: As per s. 90 ITAA 1936, net income of partnership for the given income year = $100,000 - $120,000 = -$20,000
The above computation of net income does not consider the $40,000 given as salary to Andrew who is a partner. Since partnership firm is not a separate legal entity from the partners, hence the partners cannot be the principal and agent simultaneously.Thus, in accordance with s.75, the deductible expenses for computation of net partnership income does not include any salaries paid to partner. Instead these are deducted from the net income of the partnership before the profits are distributed to partners.
Amount from partnership to be distributed for the given income year = -$20,000 (Net loss) -
$40,000 (Partner salary) = - $60,000
The two partners Piter and Andrew has 50% share each in both profits and losses. Andrew also receives a salary of $40,000 from the partnership firm.
Thus, contribution to assessable income for Andrew = $40,000 (Salary) + (-$60,000/2) (Share in partnership loss) = $10,000
Contribution to assessable income for Piter= (-$60,000/2) (Share in partnership loss) = -$30,000
Benjamin is an artist. He sold some assets last week. He requests you to calculate the Capital Gain Tax (CGT) consequences of the following transactions:
He purchased the following items last eight months ago.
an antique ceramic bowl (for $4,000),
An antique vase (for $5,000),
A colourful painting (for $15,000),
A TV sound system for his personal use (for $10,000) and
Shares of a reputed Company (for $6,000)
Last week he sold these assets as follows:
an antique ceramic bowl (for $6,000),
An antique vase (for $1,000),
A colourful painting (for $ 5,000),
A TV sound system for his personal use (for $9,000) and
Shares of a reputed Company (for $26,000)
Based on the legal provisions, discuss capital gain tax assets and calculate his net capital gain or net capital loss for the current tax year
Answer: Considering that the capital losses of collectable items can be adjusted only against capital gains from this CGT category, hence this is taken as one asset category to evaluate the CGT consequence for Benjamin.
Collectable (Sec. 118-10 ITAA 1997): There are three relevant assets belonging to this category.
Antique ceramic bowl
Each of the above assets is fulfilling the condition of minimum cost of $500 required for the capital gains/(losses) to be assessable.
As per s. 104-10, formula for capital gains/(losses) applicable for current CGT A1 event is as follows.
Capital gains/(losses) = Sale proceeds – Acquisition Price
Antique ceramic bowl (Capital gains) = $6,000 - $4,000 = $2,000
Antique vase (Capital losses) = $5,000 - $1,000 = $4,000
Colourful painting (Capital losses) = $15,000 - $5,000 = $10,000
Net capital losses arising from the above three assets = $10,000 + $4,000 - $2,000 = $12,000
Since the capital loss from this asset class cannot be used to adjust capital gains against other class of CGT assets, hence this amount is carry forwarded.
TV Sound System: This is an asset for personal use. Section 108-20 ITAA 1997 indicates that any capital loss on this class of assets needs to be disregarded. Here, since the sale price ($9,000) is less than the acquisition price ($10,000), hence there is a capital loss which is ignored. Thus, the sale of this asset would not have any CGT consequence.
Share: Capital gains/(losses) from sahre sale = Sale proceeds ($26,000) – Acquisition price ($6,000) = $20,000
Considering Benjamin is individual taxpayer, he could avail CGT concession under s. 115-25 (Discount Method) but the issue is that shares have been held for a period less than 12 months and hence this concession is not available.Thus, net capital gains to be taxed in current year is $20,000.
CGT assuming 30% tax rate = 0.3*$20,000 = $6,000
What is meant by two terms, ‘tax evasion’ and ‘tax avoidance’? Give your answer with examples of each.
Answer: Tax evasion would imply all those illegal practices which the taxpayers may practice so as to bring down the tax liability for the taxpayer. One of the common examples of tax evasion is when a portion of assessable income is not declared. This is especially the case in which cash receipts are significant. Another example of tax evastion is when taxpayer uses illegal practices such as falsifying documents to inflate the deductible expenses for lowering the taxable income.
Tax avoidance differs from tax evasion in one crucial aspect i.e. illegal activities are not permissible under tax avoidance. The tax avoidance also aims to lower the amount of tax paid but it does so based on legal means. The various statutory provisions are not violated but the inherent weaknesses in these are exploited so as to reduce the tax outflows. An example would be to include deductible expense of a particular type to the extent proof is not required. There is no falsification of documents unlike tax evasion.