Tax Scams Catching Out the Unwary

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Tax Scams

Every tax time is an opportunity for scammers to target the unwary.

This time around, tax scams involve the scammers phoning and claiming to be from the prosecutions department of the ATO. They then state that they believe you have committed fraud and the Sheriff’s Office has been called.  You can of course make this all go away by transferring cash using the details they provide or by giving your details to them. All of it is fake.

There are a number of variations to this fake arrest warrant scam. In some cases a message is left on an answering machine obliging the person to call back.

Understandably for those with outstanding tax debt, these tax scam calls can cause concern. If you receive a call like this, you should feel free to hang up. We can contact the ATO on your behalf to verify there are no known issues.

Or, if you would like to report the scammers, take as many details as possible without giving any information away (phone numbers, supposed section of the ATO, name of the person calling, etc.,) and pass them onto us. Once again we’ll verify with the ATO and report any known details about the scam for further investigation.

If you are contacted by email by the ATO or a group purporting to represent the ATO, you can forward these tax scam emails directly to the ATO at ReportEmailFraud@ato.gov.au.

Landlords Beware:

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Negative Gearing Property – Key issues for property investors

Are you relying on negative gearing?

There has been a lot of negative conversation about negative gearing lately.  But, if you are currently negative gearing your investment property, should you be concerned?

Negative gearing is when you claim more in tax deductions than you earn for an income producing asset that you have purchased using debt. It is not limited to property, you can for example negatively gear shares, but property is the dominant negatively geared asset claimed by Australians.

The latest Taxation Statistics show that we claimed $22.5 bn in rental interest deductions in 2012-13 against gross rental income of $36.6 bn. While these statistics are not as bad as previous years because of the low cost of borrowing ($1.6 bn less than 2011-12), it’s more than the total Defence budget in 2013-14 at $22.1 bn.

The use of these property deductions does not vary widely across income ranges – that is, it’s not just those on the highest income bracket using negative gearing. The highest proportional losses were experienced by those with incomes (net of the rental loss) between $55,001 and $80,000, where deductions exceeded rental income by more than 28%. Negative gearing property makes owning an investment property accessible to those who potentially would not invest for the long term gain in property value alone.

The Reserve Bank has stated that the ‘hot’ property market, particularly in Sydney, is because “Investor demand continues to drive housing and mortgage markets, with low interest rates and strong competition among lenders translating into robust growth in investor lending.” In NSW, lending to investors now accounts for almost half of the value of all housing loan approvals.  Demand drives price.

The tax policy experts we canvassed generally held the view that negative gearing distorts the market and – in combination with the CGT discount – provides considerable and unnecessary tax advantages to those who least need them.  To quote one, “[Negative gearing] is a uniquely Australian phenomenon (no other country is so generous) and I would abolish it (and the CGT discount) immediately (and not be so generous as to grandfather existing owners).

The suggestion that its (temporary) abolition in the early 1990s led to an increase in rent was based on spurious and incomplete evidence. More relevant research has subsequently debunked the suggestion that the spike that happened in Sydney house prices had little to do with the abolition and a lot more to do with other, unrelated market forces.”

At present, the Government and property investors want to keep negative gearing.  It’s a lonely policy position. The Government Tax White Paper is due out later this year and may provide a better indication of any potential risk for investment property owners.  But, negative gearing property is not something to bank on as a long term strategy.  It’s just a question of which Government will have the support to remove it.

Friends, family and holiday homes

If you have a rental property in a known holiday location, chances are the ATO is looking closely at what you are claiming. If you rent out your holiday home, you can only claim expenses for the property based on the time the property was rented out or genuinely available for rent.

If you, your relatives or friends use the property for free or at a reduced rent, it is unlikely to be genuinely available for rent and as a result, this may reduce the deductions available. It’s a tricky balance particularly when you are only allowing friends or relatives to use the property in the down time when renting it out is unlikely.

A property is more likely to be considered unavailable if it is not advertised widely, is located somewhere unappealing or difficult to access, and the rental conditions – price, no children clause, references for short terms stays, etc., – make it unappealing and uncompetitive.

Repairs or maintenance?

Deductions claimed for repairs and maintenance is an area that the Tax Office is looking very closely at so it’s important to understand the rules. An area of major confusion is the difference between repairs and maintenance, and capital works. While repairs and maintenance can be claimed immediately, the deduction for capital works is generally spread over a number of years.

Repairs must relate directly to the wear and tear resulting from the property being rented out. This generally involves a replacement or renewal of a worn out or broken part – for example, replacing damaged palings of a fence or fixing a broken toilet. The following expenses will not qualify as deductible repairs, but are capital:

Replacement of an entire structure (for example, a complete fence, a new hot water system, oven, etc.) Improvements and extensions

Also remember that any repairs and maintenance undertaken to fix problems that existed at the time the property was purchased are not deductible.

Travel expenses to see your property

If you fly to inspect your rental property, stay overnight, and return home the following day, all of the airfares and accommodation expenses would generally be allowed as a deduction. Where travel is combined with a holiday, your travel expenses need to be apportioned.

If the main purpose of the trip is to have a holiday and the inspection is incidental, a deduction for travel is not allowed. In these circumstances you can only claim a deduction for the direct costs involved in inspecting the property such as the cost of taking a taxi to see the property and a proportion of your accommodation expenses.

If you drive a car to and from your rental property to collect rent or for inspections, you can claim your car expenses.  Just keep in mind that you need to be able to prove that you needed to visit the property.

Redrawing on your loan

The interest component of your investment property loan is generally deductible. Take care if you have made redraws on your investment loan for personal purposes.  A portion of the loan may be non-deductible.

Borrowing costs

You are able to claim a deduction for borrowing costs over 5 years such as application fees, mortgage registration and filing, mortgage broker fees, stamp duty on mortgage, title search fee, valuation fee, mortgage insurance and legals on the loan. Life insurance to pay the loan on death is not deductible even if taking out the insurance was a requirement to get finance. If the loan is repaid early or refinanced, the whole amount including mortgage discharge expenses and penalty interest become deductible.

For professional advice on negative gearing your property or other assets, speak to Impact Accounting today.

What will change on 1 July 2015

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For Business

  • Small business tax cut – 1.5% for companies and 5% tax discount for unincorporated small
  • Employee share scheme rule changes to make the schemes more attractive particularly to startups (covered in our April update)*
  • ‘Fly in fly out’ and ‘drive in drive out’ (FIFO) workers will be excluded from the Zone Tax Offset (ZTO) where their normal residence is not within a ‘zone’*
  • Start-ups able to immediately deduct a range of professional expenses required to start up a business – such as professional, legal and accounting advice.*
  • The way work related deductions for car expenses are calculated will change. The ‘12% of original value method’ and the ‘one-third of actual expenses method’ will be removed. The ‘cents per kilometre method’ will be modernised, replacing the three current engine size rates with one rate set at 66 cents per kilometre to apply for all cars.

Superannuation

  • The terminally ill will be able to access super earlier*
  • Employers with 20 employees or more must use SuperStream for employee contributions.

Individuals

Changes to family tax benefits – income test changes, add on child payment removed, and changes to large family supplement.

* announced change not yet law.

Why using the 20k Budget tax deduction might be the wrong decision

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$20000 tax deduction – Important Information

So, your business has a turnover under $2 million and you want to know how to use the $20,000 tax deduction that’s been all over the news?

Before you start spending, there are a few things you need to know.

Does your business make a profit?

Deductions are only useful to offset against tax. If your business makes a loss then a tax deduction is of limited benefit because you’re not paying any tax. Losses can often be carried forward into future years but you lose the benefit of the immediate deduction.

Small businesses with a turnover of $2m or below make up 97.5% of all Australian businesses. The latest Australian Taxation Office (ATO) statistics show that well under half of these businesses paid net tax. That means that the $20,000 instant asset write-off is useful to less than half of the Australian small businesses targeted.

So, if your business makes a loss and you start spending to take advantage of the immediate deduction, all you are likely to do is to increase the size of your losses with no corresponding offset.

Immediate deduction not yet law

The $20,000 tax deduction is not yet law. The ATO only has the capacity to assess on current law not announcements. Don’t forget that many of last year’s Budget measures have not been enacted.  While we think it is highly unlikely that the other political Parties will block this measure, there is always a small risk that things will change. So don’t spend more than your business can afford.

Cashflow first!

Cashflow is more important than an immediate deduction. Assuming your business qualifies for the deduction, the most important consideration is your cashflow. If there are purchases and equipment that your business needs, that equipment has an immediate benefit to the business, and your cashflow supports the purchase, then go ahead and spend the money. The $20,000 tax deduction applies as many times as you like so you can use it for multiple individual purchases.

But, your business still needs to fund the purchase for a period of time until you can claim the tax deduction and then, the deduction is only a portion of the purchase price.

Let’s take the example of a small bakery. The bakery is in a company structure and has a taxable income for 2014/2015 of $49,545.  The owner purchases a new $13,750 oven on 2 June 2015 and installs it straight away.  The cost of the oven is claimed in the bakery’s 2014/2015 tax return resulting in a tax deduction of $13,750.

So, for the $13,750 spent on the oven, $4,125 is returned as a reduction of the company’s tax liability (i.e., 30% company tax rate in the 2015 income year). For the bakery, they need the cashflow to support the $13,750 purchase until the businesses tax return is lodged after the end of the financial year.  With the $4,125 reduction of the company’s tax liability, the business has fully funded the remaining $9,625.

From 1 July 2015, the bakery would also receive the small business company tax cut of 1.5%. If the business also had taxable income of $49,545 in the 2016 income year, the tax cut would provide a reduction of $743.

It’s important not to rely on the advice of the person you are purchasing from. There is a lot of misinformation out there in the market right now and it’s important to know how the concessions apply to you.

Is your business eligible

To use the instant asset write-off, your business needs to be eligible. The first test is that you have to be a business – not just holding assets for investment purposes.

The second is the aggregated turnover of your business needs to be below $2m. Aggregated turnover is the annual turnover of the business plus the annual turnover of any “affiliates” or “connected entities”. The aggregation rules are there to prevent businesses splitting their activities to access the concessions. Another entity is connected with you if:

  • You control or are controlled by that entity; or
  • Both you and that entity are controlled by the same third entity

What has changed?

In general, a deduction is available for purchases your business makes.  What has changed for small businesses under $2m turnover is the speed at which they can claim a deduction. Before the Budget announcement, small business could immediately deduct business assets costing less than $1,000.

On Budget night, the Treasurer announced that the threshold for the immediate deduction will increase to $20,000 at 7.30pm, 12 May 2015 for small businesses with an aggregated turnover less than $2 million.  The increased threshold is intended to apply until 30 June 2017.

For small business, assets above $20,000 can be allocated to a pool and depreciated at a rate of 15% in the first year and 30% for each year thereafter.

If your business is registered for GST, the cost of the asset needs to be less $20,000 after the GST credits that can be claimed by the business have been subtracted from the purchase price. If your business is not registered for GST, it is the GST inclusive amount.

How do I make the most of the immediate deduction?

There are a few tricks to applying the instant asset-write off:

Second hand goods are ok

It does not matter if the asset you are buying for your business is new or second hand. So, you could still claim the deduction on say, second hand machinery you have bought.

What is not included

There are a number of assets that don’t qualify for the instant asset write off as they have their own set of rules. These include horticultural plants, capital works (building construction costs etc.), assets leased to another party on a depreciating asset lease, etc.

Also, you need to be sure that there is a relationship between the asset purchased by the business and how the business generates income. For example, four big screen televisions are unlikely to be deductible for a plumbing business.

Assets must be ready to use

If you use the $20,000 immediate deduction, you have to start using the asset in the financial year you purchased it (or have it installed ready for use). This prevents business operators from stockpiling purchases and claiming tax deductions for goods they have no intention of using in the short term.

Business and personal use

Where you use an asset for mixed business and personal use, the tax deduction can only be claimed on the business percentage. So, if you buy an $18,000 second hand car and use it 80% for business and 20% for personal use, only $14,400 of the $18,000 can be claimed.

For professional advice concerning the $20000 tax deduction on offer by the Government, speak to the team at Impact Accounting today.

SUPER CONTRIBUTIONS

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Contributing to Super

What you need to know

Topping up your superannuation just got a little less dangerous with new rules that allow excess nonconcessional super contributions to be refunded.

Before the change, a huge number of people were penalised by excess concessional contributions tax because they contributed over the allowable level of contributions. It was not uncommon to see $70,000 tax bills from what was a relatively small over contribution. And, there was very little you could do about it even if the contribution was not deliberate.

The new rules mean that members can have the excess super contributions refunded to them PLUS 85% of the associated earnings on those amounts. The full earnings will then be included in your assessable income and taxed at your marginal tax rate.  You will then be entitled to a non-refundable tax offset equal to 15% of the associated earnings. Simple right? Maybe not but it’s a lot easier to understand than a $70,000 tax bill for going even $1 above your contributions limit.

These new rules apply to excess non-concessional contributions made from the 2013/14 financial year onwards. So, if you were affected by excess contributions tax, something can be done about it.

For professional advice about super contributions, speak to the friendly team at Impact Accounting today.

BUDGET 2015 : WHO IS IN THE FIRING LINE?

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Federal Budget 2015/2016

If you are a high income earner, earn income from overseas, or have a large asset base, then, if the rumours have any truth to them, you’re in the firing line in the 2015/2016 Federal Budget.

The Australian economy is coming off its resources boom ‘sugar hit’ and as Reserve Bank Governor Glenn Stevens said recently, “the government has little choice but to accept the slower path of deficit reduction over the near term.” The declining iron ore price has blown a $30bn tax receipts hole in the budget over 4 years. So, the question is, where can the Government get savings into the Budget that will pass the Senate while being palatable to voters?

Prime Minister Tony Abbott recently said, “There will be tough decisions in this year’s budget as there must be, but there will also be good news.” This Federal Budget is not about what the Government believes is necessary but what they can get through the Senate. Large structural reforms to tighten welfare, education and health have failed in the Senate in their current form. This budget will be about moving thresholds and imposing restrictions on the existing system.

Families

The Prime Minister calls the “families package” the centrepiece of the upcoming budget with child care facing “significant changes.”  While the Government has stated that this will be a better deal it is likely to be a reformulation of how child care support applies. If the budget measures follow the Productivity Commission’s recent recommendations the Government will introduce a single means tested and activity based system.

The Minister for Social Services, Scott Morrison also recently released details of an in-home nanny program to support shift workers.  The two year trial will support home care for children of shift workers, such as nurses and police, etc.

Your superannuation

Paving the way for the Government to change how superannuation is taxed, Australia’s leading body for the superannuation industry, the SMSF Association, recently stated that, “The tax treatment of very high account balances should be the starting point for discussions around adjustments to superannuation tax concessions, rather than blanket changes that impact on all members.”

Their analysis of very high superannuation account balances found that 24,000 SMSF members in the pension phase with balances in excess of $2m received around $5.2bn in tax-free income stream payments, or an average of around $216,000.

The Labor Party also recently supported changes to how super is taxed recommending that earnings of more than $75,000 during the retirement phase are taxed at a concessional rate of 15% instead of being tax-free. And, the recent Tax Discussion Paper also stated that the Government should equalise the way savings and investments are taxed including superannuation.

In effect, the Government has the support of the leading professional body and the Labor party to change the way superannuation is taxed, particularly if change is targeted at high income earners.

From a policy perspective, it’s hard to argue that high income earners should access tax concessions on superannuation beyond the need to have certainty about superannuation policy. If the way super is taxed is not altered in this budget, it’s highly likely it will be reformed in the near future – most likely as part of the Government’s response to the Tax Discussion Paper.

Pensions

Like superannuation, the Government appears open to change that targets the asset rich. Currently, couples with a family home and assets up to $1.15m qualify for a part pension. The Australian Council of Social Services (ACOSS) has recommended a reduction in the assets test for home owners and an increase in the taper rate, effectively reducing the pension amount available once the threshold is passed.

Business

The Prime Minister recently announced that the planned 1.5% company tax rate reduction will be scrapped for all but small business. Small business is expected to be a focus in the upcoming Budget with a small business package.

It’s also likely that research and development to foster “innovative” start-up initiatives will receive a boost. Treasurer Joe Hockey has said that, “there are a number of things we can do to help start-ups and we’ll be saying more about that in the upcoming Budget.”

GST on online purchases and services

To increase GST revenue, the Government has the option of trying to force through a GST rate increase with State and Territory approval or broaden the base. High on the list is applying GST to revenue earned from online and digital businesses.

On 9 April, Treasurer Joe Hockey said, “GST should be charged at the source, so a company providing intangible services into Australia, such as media services or so on, wherever they are located they should charge GST on those services.”

That is, if you are an Australian resident and purchase a good or service then tax should apply in Australia as opposed to where the business is domiciled. This issue is likely to be broader than just the $1,000 threshold for goods purchased from overseas and Netflix but a review of how tax applies to intangibles. It’s a question of when these measures will apply – either in the Budget or as part of the broader tax review.

‘Googletax’ or Multinational tax crackdown

The Treasurer has said that, “It is vitally important, vitally important that a business, wherever it is located, pay tax in the jurisdiction where it earns the income.” In April, the UK introduced a 25% tax on diverted profits created by activity in the UK.

The intent is to “target large multinational enterprises with business activities in the UK who enter into contrived arrangements to divert profits from the UK by avoiding a UK taxable presence and/or by other contrived arrangements between connected entities.” The new tax rules apply to entities with sales revenue in the UK greater than £10m.

If the Government acts on this issue in the Budget instead of waiting for the tax review, it’s likely we will see this UK style of tax apply.

Tax on bank deposits

The Assistant Treasurer has indicated that a bank deposits insurance tax will be introduced to create a fund to protect against a collapse of the banking industry. The concept was previously announced by Labor prior to the 2013 election.

Tax Discussion Leaves Debate Wide Open

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Simply titled ‘Re:think’, the tax paper released by Treasurer Joe Hockey on Monday 31st March opens the forum for a discussion on Australia’s future tax system.

There is a lot of ‘conversation’ in this document and no recommendations.  It is merely a positioning paper for discussion where the Government outlines the issues as they see them and asks a series of questions about how best to address the issues identified.  The questions, 66 in all, are extremely broad such as “What should our individuals income tax system look like and why?”

Australia’s reliance on income tax from individuals and corporates is a point heavily laboured in the report.  The message is clear, if you personally do not want to be paying more in tax then the GST must increase.  The report estimates that on current modelling, the percentage of taxpayers in the top two tax brackets (with taxable income in excess of $80,000) will increase from around 27% to 43% by the 2024/2025 financial year.

If the Government acts on the issues raised in this report, the most likely outcomes would be:

  • Increase the GST if “unanimous support of the state and territory governments, the endorsement of the Australian Government and the passage of relevant legislation by both Houses of the Australian Parliament” can be achieved. The alternative and potentially more likely scenario is to increase the base of the GST and remove exemptions.
  • Increase the Medicare levy
  • Index income tax rates
  • Reduce company tax – and potentially the removal of a raft of small business concessions replaced with a lower company tax rate
  • Remove several tax concessions including capital gains concessions (50% general discount and small business CGT concessions)
  • Equalise the way savings and investments are taxed including superannuation – although the Treasurer has said that “certainty” is important
  • Equalise how different entity structures are taxed with a particular focus on trust structures
  • ‘Cash out’ the ability to claim work related deductions with an income tax cut or provide a standard deduction – removing the need for many to file a tax return.
  • Restructuring of the FBT system and removal or reduction of more concessions including for not for profits
  • Potential restructuring of the imputation system  Restructure taxes on alcohol
  • Greater focus on tax benefits received by non-resident individuals, business and investors – where the tax benefit has no investment incentive trade off

Not that the report states any of this.  It’s simply an observation based on the prominent issues in the report.  The problem for Government is once a concession is in place, it’s almost impossible to remove.

The report works through 11 areas of the tax system identifying the key tax challenges as:

Australia’s tax challenges

  • Technological change and the digital economy
  • Investment and labour mobility
    • Multi national firms operating across jurisdictions – where their value is intangible and the location where value is added can be difficult to determine.
    • Importation of goods online that do not contribute to the indirect tax base (GST free)
    • New business models not contemplated by the existing tax system
  • Taxes with an impact on economic growth:
    • High corporate tax rates deterring investment and encouraging profit shifting and tax planning
    • Stamp duties
  • GST revenue declining as a percentage of GDP – 3.9% in 2002/2003 and 3.5% in 2013/2014, $6 bn in dollar terms.
  • High effective marginal rates deterring workforce participation (including interaction with the social security system)
  • Savings are taxed differently.
  • Simplification of tax compliance – it costs around $40bn pa
  • “Piecemeal” tax concessions add to complexity – usually apply to a particular group or otherwise to correct an unintended outcome. The cost of administering the concessions often outweighs the economic benefit.
  • The incentives for tax planning – concessionally taxed superannuation, fringe benefit concessions, applying losses.

Key data

  • Australia’s tax revenue is drawn from more than 100 different taxes – the majority from income tax (approx. 81%) and payroll taxes.
    • Our reliance on income tax is the second highest of OECD countries
    • Bracket creep – where wage increases push individuals into a higher tax bracket. The report estimates that taxpayers in the top two tax brackets (with taxable income in excess of $80,000) will increase from around 27% to 43% by the 2024/2025 financial year.
    • 3% of taxpayers, those on $180k or above, contributed 26.1% of total tax revenue
    • 5% of taxpayers, those earning over $80k to $180k, contributed 37.4% of total tax revenue
    • 6% of taxpayers, those earning over $37k to $80k, contributed 32.8% of total tax revenue
  • Australia’s corporate tax represented 5.2% of GDP in 2012 – the OECD average was 2.9%
    • There are 8000,000 companies in Australia. 2,000 companies paid two thirds of the total company tax take with the mining and financial services sector the largest contributors
  • State and Territory Governments collect around 15% of tax revenue through payroll and property taxes such as stamp duty.
    • 31% of State and Territory Government revenue is from taxes they administer. 45% is from the Federal Government
  • Local Government collects around 3% of tax revenue (rates)
  • Australia’s tax burden is higher than our regional trading partners at approx. 27.3% of GDP.
  • Australia’s GST rate is the 4th lowest value added tax rate in the OECD.
  • Medicare levy no longer hypothecated. It raised $10.3bn in 2013/2014 but Medicare cost $64 bn.
  • Fringe Benefits Tax contributes around $4.3 bn. Only Australia and New Zealand levy FBT with other countries taxing benefits in the hands of employees with fewer valuation rules, concessions and exemptions.
  • Tax from savings:
    • Superannuation raised $6.1 bn to the total tax base in 2013/2014 (1.8%)
    • CGT raised $3 bn
    • Interest on dividends contributed approx. $7bn
  • Indirect taxes raised $27 bn, contributing 13% of the total tax take in 2013/2014. $18.3 bn was from fuel tax, $8.5 bn from tobacco, and $5.9 bn from alcohol.
  • Investment properties are the third most popular saving vehicle after the family home and superannuation.
  • Not for profits account for 3.8% of GDP and generate revenue of $107 bn and hold assets of $176 bn.
    • Government funding contributes around 38% of NFP revenue with 5% from donations, and income from donated goods and services close to half of their revenue

Interestingly, the paper is at pains to remove the focus from who gets what and who pays what in percentage terms.  The paper states several times “Tax reform is about how revenue is raised, not just about how much.” This continued focus of who pays what and is it fair has scuttled many attempts at reform in the past.

While the tax paper covers numerous areas of the tax system, many of the elements are statements or queries about whether the current system is efficient.  Interestingly, the issue of the distinction between revenue and capital is raised for the complexity of the distinction and the interaction with non-resident investors (page 96).

Small business also gets a special mention in Chapter 6.  In particular, the trend toward small business taking a company or trust structure.  The report states “The different treatment of different legal entities, and the ability of a small business owner to navigate this complexity, can have a significant effect on a business’ tax liability, and can lead to different tax outcomes for economically similar activities.” And “From a first principles perspective, similar economic activities should be taxed similarly”. It’s these differences in economic outcomes that may trigger a review of trust structures and how they are taxed.

Positioning the tax paper as a national discussion and encouraging Australians to “join the discussion” hints at the broader issues the Government has in getting any reform through the current Parliament.  Fundamental reform is almost impossible in the current Parliament unless there is overwhelming public support for change and the minor parties have no political capital in blocking the reforms.

Comments on the discussion paper can be made up until 1 June 2015.  The Government intends to release its response to the consultation process in a ‘green paper’ due mid 2015.

SHOULD YOU GIVE YOUR EMPLOYEES SHARES IN YOUR COMPANY?

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Employee Share Schemes

There is a lot being written about employee share schemes (ESS) right now. And rightly so. Reforms before Parliament will make these schemes more attractive with a common sense approach to how they are taxed and special incentives for startup companies to share the rewards of growth with the people who help create that growth.

As the reforms apply to shares and options issued from 1 July 2015, it’s important that employers do not issue new shares or options prior to this date if they want the new rules to apply to those shares or options. If the shares or options are issued prior to this date they will be caught under the current, more onerous rules.

What does an employee share scheme do?

Employee share schemes are a way for businesses operating through company structures to provide employees with an ownership stake and share in the growth of the company or its parent. The main purpose of employee share schemes is to align the interests of employers and employees as both parties will be working towards a common goal.

Under an ESS, employers issue shares (an ownership stake) and/or options (a right to acquire shares at a later date) to their employees at a discount to the market value of the shares or rights.

A range of conditions generally applies to determine when and how the employee can access those shares. For example, in many cases employees will not have full access to the shares until they have been employed by the company for a certain number of years or certain performance targets have been satisfied. These conditions can lead to reduced staff turnover and higher levels of productivity. This is because the employee would generally forfeit the shares if the conditions are not met.

A shareholders agreement may also be put in place to control when, how and who the shares can be sold to once the employee is able to exercise the rights.

The reforms before Parliament address how and when employees are taxed on those shares and the regulation of share schemes.

How will the new rules work?

At a very high level, when an employee receives shares or rights under an employee share scheme they are taxed on the discount they have received.

The discount is taxed much in the same way as salary or wages. The discount is generally taken to be the difference between the market value of the share or right and any amount paid by the employee to acquire the share or right.

Depending on the way the scheme has been structured, the employee may be able to defer the taxing point until a later point in time (many years later in some cases) and concessions may also be available to reduce the amount that is subject to tax.

As with the current rules, it will still be necessary to work through a number of conditions to determine whether an employee is able to defer the taxation of the shares or rights they have received. If these conditions are met and the employee has been provided with shares, the taxing point will be the earlier of:

  • When the employee leaves the employer
  • 15 years after the shares were acquired; or
  • The point where the employee can sell the shares without restriction.

If the conditions are met and the employee has been provided with options to acquire shares then the taxing point will be the earlier of the following:

  • The employee leaving the employer;
  • 15 years after the right was acquired;
  • The point where the employee can sell the rights without restriction; or
  • The right is exercised and there is no real risk of the employee forfeiting the resulting shares and there are no restrictions on the employee selling the shares.

In general, the new rules enable the taxing point to be deferred for a longer period of time until the point at which it becomes clear that the employee will actually derive some economic benefit from the shares or options they have received.

The reforms also introduce special incentives for startup companies.

Startup companies are unlisted companies that have been incorporated for less than 10 years and have an aggregated turnover of $50m or less in the income year prior to the introduction of the share scheme.  Where the startup is part of a corporate group, all companies in the group must also meet these requirements. There is a carve out for certain venture capital funds from this turnover test and 10 year incorporation rules for startup companies.

One of the concessions that will be available for employees of these start-up companies is that small discounts received in relation to shares or rights are not taxed at all under the ESS rules. For shares, the discount offered cannot be more than 15% of the market value.  For rights, the strike price must be equal to or greater than the market value of ordinary shares in the company at the time the right is acquired.  If the relevant conditions are met the discount should not be taxed but it will still be necessary to deal with the capital gains tax implications on eventual disposal of the shares or rights.

The new rules also tidy up the interaction with the capital gains tax (CGT) system for employees of startup companies to make it easier for them to access the 50% CGT discount. Normally, when someone exercises an option to acquire shares, the 12 month holding period rule is reset, which means the shares need to be held for another 12 months to access the CGT discount on sale.  Under the new rules, the 12 month period will be measured from when the rights were acquired.

When should your company contemplate an employee share scheme?

Share schemes are typically used as an incentive to retain and attract key team members. They can be particularly useful in a start-up environment where there is not necessarily the cash available to attract top quality employees with high salaries. As team members cannot realise the value of the shares for an agreed period of time, the scheme locks them in for this period or they lose any benefit. Beyond the ‘golden handcuffs’, offering employees the ability to invest their talent in a tangible growth asset rather than just receiving a salary is a powerful incentive.

It’s important that there are strong rules and documentation around how share schemes are managed. For example, if an employee holds shares acquired through an ESS but then leaves the company, can they sell the shares to anyone or will they be restricted to selling the shares back to the company or existing shareholders based on an agreed valuation formula? The risks to the company of having a broad array of shareholders need to be carefully thought through.

How do you establish an employee share scheme?

It’s really up to the company and its current owners to determine how the ESS is structured. However, the scheme is more likely to be successful in aligning the interests of employers and employees if it is structured in a way that is tax effective for the employees who will be participating in the arrangement.

For example, in order to access many of the concessions that are available under the rules there are some common conditions that need to be met. These are:

  • The scheme should not result in any one employee holding more than 10% of the shareholding or controlling more than 10% of the voting power of the company;
  • The shares offered under the scheme need to be ordinary shares;
  • The company’s main business must not be share trading; and
  • The individual needs to be employed by the company issuing the shares or one of its subsidiaries.

Before implementing an employee share scheme it is important to ensure that both the commercial and tax issues have been fully considered. You will need professional support including commercially aware legal advice and documentation, tax advice and business structuring advice. Generally a valuation of the business would also need to be undertaken to establish the discount that is being offered. There is no one size fits all method.

The Australian Tax Office is working on standard employee share scheme documentation and valuation safe harbours. While companies do not have to rely on these documents they will go some way to standardising how these schemes are implemented and the minimum requirements and standards.

For all matters concerning Employee Share Schemes, contact the team at Impact Accounting today.

The 1st April Salary Packaging Trap

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Why a tax on high income earners will disadvantage many with salary packaging agreements.

In last year’s Budget, the Government introduced a 2% ‘debt tax’ on high income earners – the temporary budget repair levy. Unlike many other announced Budget changes, the debt tax bill passed Parliament in record time – 12 sitting days with no amendments.

While the debt tax itself only directly affects those with taxable income above $180,000, there are a number of other tax changes that came in with the debt tax that affect everyone else.

To prevent high income earners planning around the debt tax, the Government increased the Fringe Benefits Tax (FBT) rate from 47% to 49% from 1 April 2015 – bringing it in line with the top marginal tax rate. Like the debt tax, the FBT rate change is temporary, with the tax scheduled to reduce back to 47% on 1 April 2017. The gross up rate for reportable fringe benefits also increases from 1 April 2015 – 2.1463 for type 1, and 1.9608 for type 2 (type 2 is used for employee payment summaries).

What does this all mean?

In general, the FBT rate change will make providing employee benefits more expensive and potentially less attractive over the next few years.

For those with salary packaging arrangements in place, it is important to review the details of those arrangements and ensure that they still achieve the intended goals.

For employers, you need to review all salary packaging arrangements and any expenses where you have a large FBT exposure.

For employees, it’s essential to understand how these rate changes impact on you. Changes to income and fringe benefits tax over the years have made salary packaging less effective in general and in some scenarios, you might be worse off. Employers may also seek to pass on the FBT rate increase which will increase the amount you are sacrificing and reduce the effectiveness of the packaging.

If you receive family tax benefits or other assistance payments from the Government, it’s essential to review salary packaging arrangements as the changes may have a direct impact on any benefits you receive. This is because fringe benefits reported on your payment summary are taken into account for a number of family benefit income tests. The FBT gross up rate used to calculate these reportable fringe benefits has increased and as a result, the reportable fringe benefits on your payment summary will also increase.

The FBT rate change will generally not affect not-for-profit entities and other tax exempt entities because the annual maximum value of the capped FBT exemption has also gone up – so employees of these entities should be no worse off than before the FBT rate change.

If you are a high income earner and require professional assistance with your tax returns, talk to the team at Impact Accounting today.