Taxation Law and Practice in Australia - Case Study Example

Taxation Law and Practice Introduction Tax on income is levied on taxable income of the tax payer. Taxable income is computed for each financial year. It is arrived at by first ascertaining assessable income and making allowable deductions there from. The taxable income is of two kinds. It is calculated as ‘ordinary income’ in accordance with ordinary concepts and ‘statutory income’ which is other than ordinary income such as certain capital gains to be specifically included in assessable income. Ordinary income and statutory income are again classified as follows. They are assessable income shown under taxable income, exempt income not shown under taxable income except when there is loss in any year. In working out a taxpayer’s loss, some items are both excluded as well as ignored. These are known as non- assessable and non-exempt income as a concept applicable from the year 2003/04 and subsequent years. (CCH, Wolters Kluwer Business) The income according to ordinary concepts For a resident of Australia, income received directly or indirectly both from inside and outside Australia are shown as his assessable income. If the tax payer is non-resident, income received from only Australian sources and certain income other than from Australia are shown as assessable income. There are certain criteria by which the status of resident or non-resident and source of income are determined. There is a basic difference between the tax treatment for resident status and non-resident status. (CCH, Wolters Kluwer Business) Resident A resident of Australia has to show in his assessable income all incomes received directly and indirectly both from in and out of Australia. Those who reside in Norfolk Island, Cocos (Keeling) Islands and Christmas Island are treated as residents. But some genuine residents of Norfolk Island are allowed some exemptions. (CCH, Wolters Kluwer Business) Non-Residents They are liable pay tax on ordinary or statutory income from Australian sources only. For these persons sources as well as resident status are critical factors for determining their income. They are entitled to tax free threshold. They cannot also claim family assistance and other personal tax offsets. The general rule is they are taxable for their income from Australian sources subject to certain exceptions. (CCH, Wolters Kluwer Business) Temporary Residents Those who reside in Australia with temporary visas are exempt from their any foreign sources of income though they qualify as residents. Summary of tests for residency status of individuals. They are considered residents if they satisfy any one of the following criteria. a) if they actually reside within Australia within the literal meaning of the term. b) If they are domiciled in Australia except when they can satisfy that their permanent residence is outside Australia. c) If they are actually in Australia for more than one half of the income year unless they can prove their permanent residence is outside Australia and they have no intention to take up residence in Australia. d)If they are Australian officials residing outside Australia contributing to common wealth superannuation fund scheme under Superannuation Act 1976 or Superannuation Act 1990 or are the spouse or child under age 16 of such Australian officials. (CCH, Wolters Kluwer Business) Year In Australia, financial year is July to June and income of the tax payer during this period of twelve month will be computed as taxable income for that year called income year. However a company will be taxed on the basis of ‘previous year’ concept. That is, tax payable for the current financial year will be based on the income of the previous year. Any taxpayer can have a substituted accounting period ending other than on 30 June with the prior permission of the commissioner. If an individual’s foreign sources of account have different account periods than 30 June, commissioner may allow them to be shown in his Australian return of income during the corresponding foreign income year basis. But reasons and details must be given in the return as per Tax Ruling IT 2498. (CCH, Wolters Kluwer Business) Characteristics of income Ordinary income has the natural meaning except where courts have interpreted them otherwise. An easier way is to compare an income with capital in order to understand the concept of income. If tree is capital, fruit is income. An investment on property is capital and rent earned from the property is income. Likewise a bank account is capital and interest earned is income. Investment on shares is capital while dividends are income. If an income is earned, received periodically, received from exploitation of assets and if it is compensation for loss of other income or is convertible into, they are more likely to be treated as ordinary income. On the other hand, if a receipt is gift, windfall, received in lump sum, from sale of assets, a compensation for loss of a capital asset, or not convertible into money, they more likely to be capital. (CCH, Wolters Kluwer Business) Common items of income are salary, wages, bonuses, commissions, gratuities, allowances and benefits received in the capacity of employee. Earnings, commissions, fees, allowances, gratuities for services rendered otherwise than as an employee are also income. Pensions, superannuation allowances, retiring allowances, and retiring gratuities received for services rendered in the capacity of employee or otherwise are income. Bounties or subsidies for business run alone or on partnerships, interest, rent, dividends, royalties, and profit on sale of trading property are treated as income. Since loans are not assessable income, household support payments are not income. Salary or wages paid by mistake to employees which they have to return cannot be treated as income. If the obligation to repay is waived, it is an income. (CCH, Wolters Kluwer Business ) Partnerships Income of partnership entity is not taxable on the entity unless it is a limited liability partnership even if one of the partners’ liabilities is limited. Hence net income earned by the partnership will be taxed at the individual level of the partners concerned. The concept of partnership is broader than the ordinary meaning and hence income jointly received is a partnership income. Anti-avoidance rules will be applied if the partnership is merely for namesake and there is no partner having no control over the partnership income. (CCH, Wolters Kluwer Business) Details of income received Partnership’s assessable income for 2007/08 August 2007 to June 2008 @ $12,000 pm (5 ½ months as residents and (5 ½ months as non-residents?) July 2008 to June 2009 @ $12,000 pm (12 months as non-residents?) July 2009 to December 2009 @ $ 12,000 pm as residents July 2009 to June 2010 lump sum $ 100,000 as residents Rental income for the Australia house Paid Lease rent for 2 years in India Note:-Returned to Australia in June 2009 Residency status of Rhonda Ravenscroft and her husband Aaron, The following are the rules governing residence status of a tax payer as per section 6 of the Income Tax Act 1997. There are four tests under the tax law for determining whether a natural person is an Australian resident. These tests are: (1) the person actually resides within Australia within the ordinary and natural meaning of that expression; (2) the person is domiciled in Australia, unless the Commissioner is satisfied that the person's permanent abode is outside Australia; (3) the person has actually been in Australia continuously and intermittently for more than one half of the year of income, unless the Commissioner is satisfied that his usual place of abode is outside Australia and that he does not intend to take up residence in Australia; or (4) the person is an Australian official residing abroad who is a contributor to either: (i) the Commonwealth Superannuation Scheme; or (ii) the Public Sector Superannuation Scheme established or is the spouse or child under 16 years of age of such a person. (CCH, Wolters Kluwer Business) Rhonda and Aaron were out of Australia from 15 January 2008 to June 2009 i.e for 17 ½ months. Their partnership was registered in Australia and the contract amounts were credited in Australian bank accounts. So, for the above period from 15 Jan 2008 to June 2009, though they were outside Australia, they are still considered residents of Australia. For the year 2007/08, they have been out of Australia for 166 days. In this connection Taxation Ruling No 2650 lays down guidelines to determine residency for the relevant year. According to para 22, permanency or residency does not necessarily have to be viewed in the sense of ‘everlasting’ or ‘forever’ but should be distinguishable from temporary or transitory. In this case, Rhonda and Aaron had no idea as to how long the contract would continue nor had their contracting company gave any indication. Moreover, with the intention of residing in New Delhi they leased out a flat there and rented out their house in Australia. Though this can justify their claim of not being residents for the year 2007-2008, the factors that their partnership was registered in Australia and contract money was being credited into their Bank Accounts in Australia and they have resided in Australia for more than one-half of the year would outweigh the earlier said factors of their having leased out a flat in New Delhi and having not envisaged any period of stay in New Delhi. Notwithstanding these justifications to deny them non-resident status, their continued stay in New Delhi throughout the next year shows that they could have claimed at the time of filing their return expecting to stay longer in New Delhi. Thus in spite of failing the test of 183 days rule, they can claim to be non residents for the first year of 2007-08 it self since similar circumstances prevailed in the case of F.C of T.V. v Applegate (1979) in which Federal Court of Australia pointed out the ‘permanent place of abode outside’ and gave the taxpayer the benefit of claiming as ‘non-resident’. But there is one more difficulty in treating their income as that of foreign source since, it is the Australian source of income that they have received throughout. Hence for all practical purposes, they should be treated as Residents only and their stay abroad was merely incidental to their contract received locally. Besides they have not intimated the local authorities for stopping any assistance they were receiving, though they had no school going children at the time of leaving Australia. The case of Applegate cannot be strictly applied in this case, because Applegate was an employee where as these persons are independent contractors. Had they been non-residents, they would have been entitled to a prorata tax free threshold for the number of months they were Australian residents. They need not pay medicare levy for the number of days there were not Australian residents. (Australian Taxation Office) For 2008-2009 For the entire period of one year, Rhonda and Aaron are entitled to claim as non-residents but for the above limiting factors of partnership having been registered locally in Australia, the monthly amounts of $ 12,000 being credited to Australian banks and the source of income not being foreign unlike in the case of an employee. Hence this year also, they are to be treated as Residents only. For 2009-2010 Rhonda and Aaron can claim only residency for six months from July 2009 to December 2009 assuming they were paid locally by the contracting company until cancellation of the contract in December 2009. For the Victorian Govt contract, they have received a lump sum of $ 100,000 for the period from July 2009 to June 2010 and hence Assumptions It has been mentioned that the $12,000 p.m as monthly retainer. No mention has been has been made about incidental expenses for establishing the call centre. The contract is not clear since it is merely stating as setting up of a call centre in New Delhi. But the conduct of the parties shows that the Rhonda and Aaron had to establish without employees since Aaron has been assigned the task. Whether $12,000 is inclusive of expenses or net of expenses has also not been clarified. Hence the assessable income of Rhonda and Aaron is subject to deduction of expenses if any. Besides, their own transit expenses such as air fare and local travel expenses and lease amount paid for their flat in New Delhi need to be adjusted to the net income before arriving at tax liability, if not already reimbursed by their contracting company in Australia. Similarly, expenses incurred for execution of contract with Education Department Victoria need to be adjusted to the lump sum received. I RHONDA Assessable income for Rhonda for 2007-2008 50% of retainer received for 11 months from Aug 2007 to June 2008 $ 66,000-00 Add Rental income for house in Australia Less lease for the flat in New Delhi Assessable income for Rhonda for 2008-2009 50 % of retainer for 12 months ……………………… $ 72,000-00 Add Rental income for house in Australia Less lease for the flat in New Delhi Assessable income for Rhonda for 2009-10 50 % of retainer for 6 months. (this is subject having been actually received since she left New Delhi in June itself) ………………………………………..$ 36,000-00 Add 50% the contract amount received from Education Department, Victoria ……………………………………………...$ 50,000-00 II AARON Assessable income for Aaron for 2007-2008 50% of retainer received for 11 months from August 2007 to June 2008 $ 66,000-00 Add Rental income for house in Australia Less lease for the flat in New Delhi Assessable income for Aaron for 2008-2009 50 % of retainer for 12 months ……………………… $ 72,000-00 Add Rental income for house in Australia Less lease for the flat in New Delhi Assessable income for Aaron for 2009-10 50 % of retainer for 6 months. (this is subject having been actually received since he left New Delhi in June itself ) ………………………………………..$ 36,000-00 Add 50% the contract amount received from Education Department , Victoria ……………………………………………...$ 50,000-00 References Australian Taxation Office, Non-residents - lodging an Australian income tax return, Accessed on 27 April 2009 < http://www.ato.gov.au/individuals/content.asp?doc=/content/29089.htm> CCH, Wolters Kluwer Business, Income tax Guide, Accessed on 27 April 2009 < http://library2.cch.co.nz.ezproxy.aut.ac.nz/dynaweb/atg/@CCH__CollectionView;pf=;cs=default;ts=default;pt=atg> F.C. of T v Applegate, 79 ATC 4307 (1979) 9 ATR 899 cited in Taxation Ruling No IT 2650, Accessed on 27 April 2009 < http://law.ato.gov.au/atolaw/view.htm?docid=ITR/IT2650/NAT/ATO/00001> 26 April 2009 Taxation Ruling No IT 2650, Accessed on 27 April 2009 < http://law.ato.gov.au/atolaw/view.htm?docid=ITR/IT2650/NAT/ATO/00001> 26 April 2009 Read More