September 2019 – Essential Tax Summary

September is expected to be an active month with Parliament sitting again on 9 September and a raft of determinations and rulings expected. We’ll keep you up to date with change as it occurs with Fortis Accounting Partners.

LCT relief for primary producers and tourism operators

In the 2019-20 Budget the Government announced that it would provide further relief to farmers and tourism operators by amending the luxury car tax (LCT) arrangements. Exposure draft legislation and explanatory materials for amendments that would give effect to this Budget announcement have now been released.

Under the proposed new arrangements, eligible primary producers and tourism operators will be able to apply for a refund of any luxury car tax paid, up to a maximum of $10,000, for vehicles acquired on or after 1 July 2019 (this is up from the current limit of 8/33rds of LCT paid up to a $3,000 limit).

If the legislation is passed, it is expected that any additional entitlement arising as a result of the amendments will be provided automatically to affected entities based on their original claim (i.e. a claim made before the changes are enacted) and will not require a further application to be made.

More Information

From the ATO

ATO warning on undisclosed foreign income

The ATO has provided a warning that it will be focusing on whether taxpayers have disclosed all of the foreign income they may have derived. As a result of recent developments in information sharing programs with foreign tax authorities the ATO has access to much more information that can be used to identify taxpayers who might not be complying with their Australian tax obligations.

As a general rule, Australian resident taxpayers are taxed on their worldwide income, even if tax has been paid overseas on this income. This would typically include things like income from offshore investments, salary and wages earned overseas, foreign pensions, business and consulting income and capital gains on overseas assets.

However, there are some exceptions to this. For example, if the taxpayer is classified as a temporary resident then they would not generally be subject to Australian tax on foreign sourced income or foreign assets. Likewise, if someone has received a genuine gift from a relative overseas then this won’t necessarily be taxed in Australia. On the other hand, if it appears that the funds have come from a foreign company then this could cause tax issues under Division 7A.

If clients have derived foreign income that is not subject to Australian tax (eg, it was derived while they were a non-resident or temporary resident) then they should be encouraged to keep appropriate records to demonstrate this as the ATO may query this if the funds are later transferred into Australia.

If taxpyers have not correctly reported their foreign income for the current year or a prior year then they should consider making a voluntary disclosure as this can at least limit the penalties which would otherwise be applied to the tax shortfall.

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Guidance on home-based businesses

The ATO has released some specific guidance in relation to home-based businesses. The guidance deals with the issues that arise in the context of a range of different business structures, including where the business is operated by a sole trader or as partners in a partnership as well as through entities such as companies and trusts.

In relation to businesses operated as a sole trader or in partnership, the guidance outlines the circumstances in which it is possible to claim part of the occupancy expenses (i.e. rent, mortgage interest etc) for the home. There is also information on claiming running expenses and the methods that may be used in determining an appropriate business use percentage (including guidance on specific costs). This really just clarifies the ATO’s existing guidance in this area.

When it comes to businesses operating through companies or trusts the ATO guide includes the following comment:

“If you run your home-based business as a company or trust, your business should have a genuine, market-rate rental contract (or similar agreement) with the owner of the property.”

Unfortunately, the ATO doesn’t really expand on this and explain why a market-rate rental agreement needs to be put in place or the implications for the parties if this does not occur. At a high level, if the business entity pays more than market value rent then this could trigger Division 7A or other adverse tax implications. Alternatively, if the owner of the property is charging less than a market rate of rent then this could impact on their ability to claim deductions in relation to the property (eg, holding costs).

The ATO also provides a warning that where someone is an employee of the business entity and it pays or reimburses the owner for expenses associated with running a business from home then this could trigger FBT issues for the business entity.

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Common GST errors for importers and exporters

The ATO has issued some guidance which looks at common errors found in activity statements relating to imports or exports of goods and services. The errors include:

  • Incorrectly accounting for on-sold imported goods
  • The GST treatment when installing and assembling imported goods
  • Incorrect reporting of warehoused goods by overseas suppliers
  • Incorrectly classifying exports for GST purposes

If tax agents have clients involved in importing or exporting goods or services then it is important to ensure that the GST treatment of their transactions has been reviewed recently. Also, for entities that have not previously been registered for GST it is important to check whether there is now a requirement to be registered under the Australian GST system. This is because a number of significant changes have been made in recent years which impact on the GST treatment of cross-border transactions.

If errors are identified, the ATO is urging taxpayers to make a voluntary disclosure as reduced penalties apply if a taxpayer voluntarily disclose errors before compliance activity commences.

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Rulings

Reporting for road freight, security and IT services

LCR 2019/4 Expansion of the taxable payments reporting system to road freight, security, investigation or surveillance, and information technology services

This law companion ruling relates to the expansion of the taxable payments annual reporting rules from 1 July 2019 to businesses providing road freight, security, investigation or surveillance, or IT services.

The ruling provides guidance on the services included in each of the relevant categories and includes a number of examples of each. While in some cases it is relatively easy to determine whether a client falls within the scope of the reporting rules, this is not always the case. Where clients are on the fringe of these industries it is worth taking a look at the guidance provided by the ATO in LCR 2019/4 to see whether it provides some clarity on whether the client is subject to these reporting obligations.

As the first report for businesses operating in these industries will need to include payments to contractors from 1 July 2019 it is important to identify clients who are affected and ensure that they are aware of this obligation so that they can start gathering the information that needs to be reported.

Draft ruling on travel expenses

In 2017 the ATO issued a draft ruling dealing with travel expenses. The ruling looks at this from the perspective of both employees and employers and replaced a number of previous rulings dealing with this complex area.

The draft ruling introduced some new concepts and contained some relatively controversial perspectives. It also failed to address a number of common issues faced by client and practitioners when dealing with issues relating to travel expenses.

Notes from a recent FBT working group suggest that the draft ruling is now being rewritten to better reflect the needs of taxpayers. It seems that the document will be reissued again as a draft ruling, presumably to allow stakeholders to comment on the ATO’s views before it is finalised. The ATO indicates that taxpayers can continue to rely on a range of current ATO documents dealing with this area (including TR 2017/D6 as currently drafted) until it is replaced.

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Determinations and rulings expected this month

Several determinations and rulings are expected this month:

  • Deductibility of work-related expenses – proposed guidance on when an employee can deduct a work-related expense
  • Commercial debt forgiveness – for reasons of natural love and affection. A draft determination setting out a preliminary view on whether an entity that is not a natural person can forgive a debt for reasons of natural love and affection.
  • Foreign income tax offset – inclusion of capital gains, clarifying the Commissioner’s view that capital gains are not captured when calculating the foreign income tax offset limit (see Burton v Commissioner of Taxation [2019] FCAFC 141 below).
  • Employee share schemes – what is an ’employee share trust’
  • Environmental protection activities – deductions for expenditure incurred for the sole or dominant purpose of carrying on environmental protection activities.
  • Corporate limited partnership ‘credits’ – when does a corporate limited partnership ‘credit’ an amount to a partner in that partnership? See TR 2017/D4.
  • Personal services income – attribution and deductions. Provides a proposed consolidation of TR 2003/6 Income tax: deductions that relate to personal services and TR 2003/10 Income tax: attribution of personal services income.
  • Restructuring for demerger relief. A final Determination providing the Commissioner’s view on how to establish the scope of a ‘restructuring’, which sets the factual parameters for the application of the conditions in subsection 125-70(1) that must be satisfied to qualify as a demerger.

Cases

Testing the boundaries of what is a personal services business

Douglass v FC of T [2019] FCA 1246

Fortunatow v FC of T [2019] FCA 1247

The decisions in these two cases both relate to personal services income (PSI) and the operation of the personal services business tests.

Douglass

In Douglass, the issue was whether the taxpayer satisfied the results test to be classified as personal services business.

In order to pass the results test you generally need to show that at least 75% of the PSI derived during the year passes all of the following three conditions:

  • The income is paid for producing a result;
  • The taxpayer is required to provide the tools / equipment required to perform the work; and
  • The taxpayer is liable for the cost of rectifying defects in their work.

Th Douglass case focused on the interpretation of a specific phrase in the legislation relating to the results test. Subsection 87-18(4) basically states that when considering the three conditions referred to above you need to have regard to the custom or practice in the relevant industry when work is performed by contractors. The taxpayer argued that if there was evidence that this type of work would not generally be performed by an employee then the results test would be passed without having to work through each of the three specific conditions of the results test.

The Court dismissed this argument as a misstatement of the legislation and confirmed that all three conditions need to be considered regardless of whether it is typical for this type of work to be performed by a contractor.

Leaving aside the specific issue dealt with in this case, it serves as a reminder that the results test does contain three separate conditions that all need to be considered. Just because it appears that someone is being paid on a results basis is not sufficient on its own to pass the results test.

Fortunatow

The Fortunatow case considered the operation of the unrelated clients test.

Broadly, in order to pass the unrelated clients test the taxpayer needs to have generated PSI from two or more unrelated clients during the year and the services need to have been provided as a direct result of the taxpayer making offers or invitations to the public or a section of the public.

This case focused on the second element of the test. When it comes to determining whether the services are provided as a result of offers or invitations to the public there is an exclusion which applies when the taxpayer provides services through an intermediary such as a recruitment agency or labour hire firm. Broadly, the exclusion operates such that the individual is not taken to have made offers or invitations to the public merely because they are available to provide services through the intermediary.

The Federal Court in this case held that the exception has no application where there is evidence that the taxpayer advertises their services to the public or a segment of the public and also obtains work through the involvement of a recruitment or other similar intermediary company. That is, the fact that someone has undertaken work obtained through an intermediary does not automatically prevent the unrelated clients test from being satisfied.

Again, this case serves as a reminder that the unrelated clients test has multiple element that need to be considered. It is not merely sufficient to show that work has been done for two or more clients. Consideration also needs to be given to how that work has been generated.

Foreign income tax offset and overseas capital gains

Burton v Commissioner of Taxation [2019] FCAFC 141

This case was an appeal from an earlier decision (covered in the February 2019 tax round-up) which confirmed that a foreign income tax offset (FITO) is only available in relation to amounts that are included in Australian assessable income. If foreign tax has been paid on an amount that is not included in assessable income for Australian tax purposes, then it cannot be taken into account under the FITO rules. This is a common problem area when dealing with clients who have made capital gains on foreign assets and is often caused by the CGT discount, main residence exemption, cost base reset rules and other concessions.

In the earlier decision the Federal Court had confirmed that only half of the foreign tax paid by the taxpayer in the US could be taken into account under the Australian FITO rules because only half of the gain that was subject to foreign tax was included in Australian assessable income. This was due to the application of the general CGT discount and the fact that only net capital gains (not gross capital gains) are included in assessable income under the Australian tax system.

The Full Federal Court looked at this again in both the context of the Australian FITO rules and also with reference to the double tax agreement between Australia and the US. However, the Full Federal Court ultimately rejected the taxpayer’s arguments and confirmed that the previous decision was correct.

That is, section 770-10 only permits a FITO to be claimed to the extent that the capital gain amount was included in assessable income. The amount included in assessable income in relation to capital gains is the net capital gain, after the application of the CGT discount.

Medicare Levy and lump sum payments in arrears

Biswas v FC of T [2019] AATA 2372

This case involved a taxpayer who was entitled to a lump sum in arrears tax offset in respect of a lump sum received due to underpayment of wages in previous years. The Tribunal found that while some tax relief could be applied to the taxpayer’s income tax liability, no further relief could apply in relation to the Medicare levy that was triggered by this payment.

The inclusion of the lump sum amount in the taxpayer’s assessable income for the year in which the payment was received resulted in an increased tax liability and this also resulted in a liability for the Medicare levy. The taxpayer qualified for the lump sum in arrears tax offset which was shown on his notice of assessment and reduced the tax liability for the year. However, no further reduction was applied in respect of the Medicare levy liability.

The taxpayer argued that as he had been exempt from Medicare Levy during the years to which the lump sum paid in respect of the underpaid wages related, there should not be any liability for the Medicare levy as a result of the lump sum receipt in the later year.

The AAT concluded that the Medicare Levy had been correctly imposed in this case. The application of the offset did not reduce the taxpayer’s taxable income. The AAT conceded that while this result might be ‘unfair’ to the taxpayer the Tribunal was bound to find as it did, noting:

“The only question for the Tribunal is whether or not the assessment of Medicare levy is excessive or otherwise incorrect. This involves the application of law to facts. Concepts of general or idiosyncratic fairness are not relevant to that question and do not operate to allow the Tribunal to set aside the decision under review. This is so notwithstanding that the Tribunal well recognises that the consequence is that Mr Biswas is, in effect, being required to pay a Medicare levy in respect of periods of time in which he was exempt from paying it.”

This is a good reminder that even when tax outcomes don’t seem to be fair, there is often nothing that a tax agent, the Commissioner, the Tribunal or Courts can do about it.

AAT upholds SMSF trustee disqualification

Fitzmaurice and Commissioner of Taxation (Taxation) [2019] AATA 2217

The applicant in this case sought to argue against their disqualification as a trustee of a self-managed superannuation fund on the basis that they had relied on their accountant’s advice. The AAT wasn’t convinced by these arguments and stressed the importance of trustees taking responsibility for their actions.

There were a number of contraventions of the superannuation law which had led to the trustee being disqualified. In one instance the family home and certain possessions had been destroyed by fire and the applicant had withdrawn money from the superannuation fund to pay for personal expenses. In fighting the disqualification, the taxpayer stated that he asked his accountant if they could access money in the superannuation fund and that the accountant said “there were provisions to do so” and that “you can access the funds for emergency reasons.” However, the applicant had not sought any further advice or clarification on this before taking money from the superannuation fund. The AAT noted that it was imprudent of the application to act on such vague advice and without anything in writing. That is, the AAT held that the brief phone comments made by the accountant were not a reasonable explanation for the taxpayer’s actions and that it was not appropriate to rely on this as a defence of their conduct.

The taxpayer had also attempted to blame their accountant for other contraventions relating to record keeping and obtaining market valuations of assets. The AAT confirmed that the primary responsibility in respect of the maintenance of a superannuation fund falls upon the trustee. The Tribunal noted that it was concerning that the applicant had not accepted full responsibility and was still trying to lay blame on advisers.

From a tax adviser’s perspective this potentially provides some comfort in terms of what clients might decide to do based on brief statements or things discussed in general conversation. Having said that, it would be dangerous to assume that a tax adviser won’t be held (at least partly) responsible for actions taken by clients on the basis of discussions between the parties, no matter how brief or informal. Tax advisers should remember to keep detailed notes of conversations with clients and consider following up informal or general discussions with written comments, perhaps confirming that the matter would need to be analysed in more detail before making any decisions or taking any action.

It is also a reminder for clients who are SMSF trustees that the primary obligation to comply with the SIS Act rests with them.

Leaked information available to the ATO

Glencore International AG v Commissioner of Taxation [2019] HCA 26

Briefly, this case concerned whether the Commissioner was able to use information obtained from data leaks, even if this was leaked from a law firm.

The High Court found in favour of the Commissioner, indicating that legal professional privilege is not a legal right which may found a cause of action. The privilege only provides immunity from the exercise of powers that would otherwise compel the disclosure of privileged communications.

Broadly, the implication is that if information has been leaked or otherwise comes into the possession of the Commissioner, the ATO can use those documents in relation to a taxpayer’s affairs regardless of whether the materials were prepared by a legal adviser.

If you have any questions about the September edition of the Essential Tax Summary,  please feel free to contact John Kalachian on 02 9267 0108.

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