Due to popular demand we have issued an updated version of our article on reducing taxes in Australia.
I’m sure you’ve heard of Benjamin Franklin’s famous quote; “there is nothing more certain than Death & Taxes”. However, there is one quote you may not have heard:
“The hardest thing to understand in the world is the income tax” – Albert Einstein
What I think Einstein is referring to is a belief that paying tax on revenue discourages the production of creating wealth and that tax should instead be based on things such as on consumption (GST), or as a deterrence or as a penalty.
Even though one of the smartest minds of our history cannot understand a tax on income, income tax has proven, over time, to be an effective means of raising funds to fuel our standard of living, worldwide. Every country around the world pays tax.
Comparison of taxes in Australia Vs OECD.
It may surprise you to know, according to the OECD.org 2019 study Australia’s top personal tax rate at 47% ranks 17th of all 37 OECD countries.
| 1 | Sweden | 57.2 |
| 2 | Japan | 55.9 |
| 3 | Denmark | 55.9 |
| 4 | France | 55.4 |
| 5 | Austria | 55 |
| 6 | Greece | 55 |
| 7 | Canada | 53.5 |
| 8 | Portugal | 53 |
| 9 | Belgium | 52.9 |
| 10 | Netherlands | 51.8 |
| 11 | Finland | 51.1 |
| 12 | Israel | 50 |
| 13 | Slovenia | 50 |
| 14 | Ireland | 48.0 |
| 15 | Germany | 47.5 |
| 16 | Italy | 47.2 |
| 17 | AUSTRALIA | 47.0 |
| 18 | Iceland | 46.2 |
| 19 | Korea | 46.2 |
| 20 | Luxembourg | 45.8 |
| 21 | United Kingdom | 45.0 |
| 22 | United States | 43.7 |
| 23 | Spain | 43.5 |
Data Extracted 19 April 2021 OECD.org
Our ranking in the company rate tells a different picture where Australia is ranked joint second at 30%. However, this is not an article on comparisons. There is however no doubt, taxes have become increasingly more complex and permeate our personal, business, investment, retirement, and estate planning and leads to the topic of how to minimise your Australian taxes.
Illegal tax minimisation
Word of WARNING: There is a very powerful general anti-avoidance provision in Australian income tax law known as PART IVA. Broadly this provision applies if the sole or dominant purpose of a participant acting in a scheme is to avoid or reduce tax. The commissioner of Taxation can then cancel the relevant tax benefit.
So, opening an offshore account, lodging incorrect or fraudulent returns and participating in elaborate tax avoidance schemes will NEVER be a sound strategy.
Clever tax minimisation
Our top tax planning strategies come in three main focus areas and these should be discussed with a qualified and experienced tax accountant:
- Structure, Structure, Structure
- Timing is key
- Know what Tax benefits are available.
Structure, Structure, Structure
Before you start your next business, investment or job opportunity, work out which structure is best for you to operate or invest through. Is it a Company or a Trust, or as an Inpidual or a Partnership or maybe even through your Self-Managed Super Fund?
Consider the tax rate applied to taxable income amongst each entity. The inpidual and the partnership is from 0% to 47%, the company rate is between 25% and 30%. The Trust rate is from 0% to 47%, and the Self-Managed Superfund is 15%.
Each entity has a myriad of rules and regulations which allow for combinations of the entities to be used to maximise tax benefits. I love examples so let’s use one:
Example 1 – Jane earns $230,000 salary per year and has 2 adult children of 19 and 18. Both are studying and will continue education for another 5 years. She also has a partner who earns a salary of $180,000 pa.
Jane and partner are wanting to invest in a property, estimated to provide a net profit of $30,000 per year and a Capital Gain of $500,000 in 5 years’ time. The children’s education and upkeep is expected to cost $300,000 over the next 5 years.
Their wise advisors recommend purchasing their investment property in a Discretionary Family Trust with all family members as beneficiaries.
A Discretionary Trust allows the Trustee to distribute taxable income to beneficiaries at their discretion. The Trustee can utilise lower marginal tax rates of the beneficiaries and therefore reduce the total tax liability.
Each year the trust distributes $15,000 to both children in the form of paying for part of their education and living costs with no other income received by the children. At the beginning of the 5th year they sell the property and the Capital Gain of the property is $480,000 and $240,000 is distributed to each child. Jane and partner are earning more than they did 5 years ago.
The net tax the family pay on the trust distributions over the 5 years, assuming rates do not change, and they have private health insurance, and ignoring any tax offsets, compared to purchasing in the parents own names as a partnership is:
| Trust Structure | Personal Structure | |
| Year 1 | $0 | $14,100 |
| Year 2 | $0 | $14,100 |
| Year 3 | $0 | $14,100 |
| Year 4 | $0 | $14,100 |
| Year 5 | $63,734 | $112,800 |
| TOTAL | $63,734 | $169,200 |
This is a net saving in tax of $105,466 over the 5 years. However, there is another tax that we must finally consider, and that is Land Tax. As the property is held in a Family trust there is no tax free threshold, so 1.6% of the Land value is charged. If we assume the land value is $500,000 over the 5 years, then the additional Land Tax is $8,000 per year, so $40,000 in total.
There is still a tax saving of around $65,466 over the 5 years to the family, which is significant.
The savings would be even greater if the investment was purchased in a Self-Managed Super Fund (SMSF) and the property sold when the fund was in pension phase, as there would be no tax on the gain made in the super fund and no Land Tax. This is assuming the balance of each member in the fund is under $1.7 Million…… So many rules to consider !!!
This example illustrates the significant advantages of getting the structure correct and why Structure, Structure, Structure is the first step to an effective tax strategy.
There are many ways to restructure your interests to achieve significant, future tax savings and reduce risk. However, this does come at a cost and is complex and unique to every situation and group. Your experienced tax accountant will be able to offer suggestions and estimate costs to suit your situation.
Timing is key
The income tax year is broadly 1 July to 30th June. This is a cut-off date so any income earned, or expenses incurred during this time are included in that year. This makes planning the timing of your income and expenses a critical part of tax minimisation. The following areas have been summarised as effective tax planning which are time critical:
Plan your income
Where possible, defer earning income until after June 30 to avoid paying tax in the current financial year. This may involve planning projects to be delayed where it does not negatively impact the business. Remember, this only ‘kicks the can down the road’. However, sometimes this can be very effective if the current year income is high and the following year income is expected to be low.
Time the sale of assets
The time an asset such as a property, investment or a business, is sold is critical in taking advantage of various tax concessions. Here are some to consider:
50% general exemption
Where a sale of an asset will result in a Capital Gain ensure the time of the sale takes advantage of Capital Gains Tax (CGT) concessions.
There is a 50% CGT discount on assets held for more than 12 months. Also be aware that a sale of property takes place in the year you sign the contract not on settlement day.
Apply the 15-year exemption
Small business owners aged 55 or older who retire and have owned a business asset for at least 15 years, are exempt from paying CGT when they dispose of the asset.
Retirement exemption
Small business owners who own assets with significant Capital Gains outside of their super account should time the sale of the assets to reduce the amount of CGT.
There is a lifetime limit of $500,000 CGT exemption on the sale of an active business asset. For those who are under 55, some of the proceeds from the sale of the asset must be paid into a superannuation fund or retirement savings account.
Pre-pay expenses
Prepaying up to 12 months of deductible expenses can bring the deduction forward to the current financial year. This may include prepaying interest on an investment loan.
Know what tax benefits are available
There are a range of options that may be available to assist in minimising tax. Let’s look at some of the most common ones:
Superannuation contribution options
Salary sacrificing super
Salary sacrificing into super involves forgoing some of your pre-tax salary/wages and putting it into super instead. This is a tax-effective strategy because super contributions are taxed at the concessional rate of 15% in Australia. This rate is lower than the personal income tax rate.
One allowable tax deduction that can also be a significant long-term wealth creation strategy is maximising your voluntary superannuation contributions. You can currently claim up to $27,500 as a tax deduction in the financial Year ended 30 June 2022. This is known as the concessional contributions cap.
Unused concessional cap carry forward
From 1 July 2018 you may be entitled to contribute the unused amounts of your concessional contributions cap for a maximum of 5 years.
For example, if you didn’t pay any superannuation contributions for FY2019, FY 2020 and FY 2021 then you may be entitled to make deductible super contributions to the value of $102,500 in FY 2022. This could save $48,175 in Tax for the FY2022 year.
Salary packaging in a charity
If you are working for a charity that has FBT exemption you can save by having $15,900 of your living expenses paid tax free, these include expenses such as such as:
- Rental payments
- Personal loan payment
- Mortgage payments
- Credit card payments/living expense cards
- General living expenses
- Utility bills or rates notices
Temporary Full Expensing and allowances
Are you carrying on a business with sales revenue of less than $50 million?
If so, if you buy new or second-hand assets before 30 June 2022, you’ll be eligible to claim a tax deduction for the full cost of the assets in the 2022 financial year.
This scheme is referred to as ‘temporary full expensing’. More generally known as the Instant Asset Write Off. It was introduced by the Government for assets bought after 6 October 2020 and will apply to assets first used or installed ready for use before 30 June 2023.
Before buying these assets, you should be aware that your tax deduction will be limited to the business use of the asset. Your tax deduction will also be limited to $60,733 if you buy a car during the 2022 financial year. For tax purposes, a car is broadly defined as a motor vehicle designed to carry fewer than nine passengers and a load of less than one tonne.
Take advantage of tax concessions that exist now – they may not be here forever! See your tax accountant for more details as there are many conditions applicable.
Claim for property depreciation
Most properties that generate income, qualify for some level of depreciation. Property investors can claim pision 43 capital works deduction and pision 40 plant and equipment depreciation. The capital works deduction applies to items that are fixed to a property’s structure and includes renovations. The plant and equipment deduction relates to what you can claim for eligible items within the property, such as curtains or blinds.
Use a quantity surveyor
Quantity surveyors can help prepare a depreciation schedule to help maximise an investor’s claim for depreciation. The cost of preparing this report is also tax deductible.
Did you know there is an unintended ‘Death Tax’ in Australia?
Super benefits paid on the death of a member are tax-free for a deceased member’s dependants. However, many members are not survived by dependants, and are often survived by adult independent children who do not receive distributions tax-free. The taxable component of the lump-sum super death payment is usually subject to 15% tax.
To minimise the chance of surviving adult children paying the ‘death-tax’, members should consider using a recontribution strategy, keeping a separate pension or even drawing down on their super before their death. This means having clear instructions in the will and for any Power of Attorney in the event of incapacity.
Use your Franking Credits wisely
Use of Franking Credits in your tax planning can save you tax. This is achieved by utilising the tax paid by the company, which is passed on to the shareholder when a Franked pidend is paid.
Franking credits can reduce the income tax paid on pidends or potentially be received as a tax refund.
Effective tax planning
This list is not exhaustive, and we highly recommend you talk to an experienced tax accountant as every person’s tax position is unique and requires consideration of a multitude of factors to design an effective tax plan.
Let’s also keep in mind, as Thomas Dewar founder of Dewars Scotch on tax once said:
‘The only thing that hurts more than paying income tax is not having to pay income tax.’
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