Top Tax & Accounting Q&As - June 2016
by Knowledge Shop Editor, on 30/06/16 08:00
This month's top tax & accounting Q&As live from the Knowledge Shop Help Desk:
- When is commission income derived?
- Small Business Tax Break – is each item deductible?
- Transferring shares into a trust and the new small business CGT restructure rollover
- Impact of changing partners in a partnership
- Small business CGT concessions and replacement assets
1. When is commission income derived?
A client’s company operates a real estate agency only for sales with no property management.
In order to keep track of income, the client enters into its accounting system an invoice for commissions when the property exchanges.
The client is not entitled under the contract to income and does not receive the income until the property settles. For example, if the settlement does not proceed for any reason then the agent will not be paid.
The client argues that the derivation of income and therefore the taxing point is on settlement not when he enters the invoice into his accounting system for tracking purposes.
Could you please advise with any relevant authorities?
Assuming that the client accounts for income on an accruals basis, the key issue is determining the point at which the income has been derived. While issuing an invoice would often trigger the derivation of income, this is not necessarily the case.
TR 97/5 specifically deals with the derivation of income by real estate agents for tax purposes. The ruling confirms that the terms of the agency agreement between the real estate agent and the client under which the commission is payable determine when the commission income is derived for tax purposes. The income is derived at a point at which the debt becomes recoverable.
As an example, if under the agency agreement, the agent is entitled to a commission upon settlement of the property, the commission income is derived at that point as the vendor then has the obligation to pay the real estate agent. In other words, the real estate agent has the right to recover the debt only upon settlement. If the client created an invoice before this time then this should not mean that the income is assessable at that point if they have no right to receive payment unless settlement occurs.
2. Small Business Tax Break – is each item deductible?
In relation to the small business tax break, a client (who complies with small business eligibility rules) has installed a new office fit-out (consisting of furniture and computers).
The total cost of the fit out was $30,000. The invoice splits each item, where by no asset is greater than $20,000.
As each individual asset is less than $20,000, does this mean the client can claim $30,000 as an immediate deduction?
Yes, as long as the client has evidence to show that the total cost of each item is less than $20,000 at the end of the year in which the assets were held and first used by the client. It should then be possible to claim an immediate deduction, if the client is a SBE and chooses to use the simplified depreciation rules. Note that the cost of the assets should include a reasonable portion of any installation costs, etc.
The SBE immediate write-off rules look at each asset separately, even if they are bought at the same time or are part of a set etc.
You will need to check that the expenditure does actually relate to depreciating assets rather than capital works that would fall within the rules in Division 43 instead.
3. Transferring shares into a trust and the new small business CGT restructure rollover
A trading company is currently owned by husband 60% and wife 40%.
The trading company qualifies as a small business entity and the shares in the company are active assets.
1. Can the husband and wife transfer their shares to a discretionary trust of which the husband is trustee on 1 July 2016 and apply the new small business CGT restructure rollover?
2. The new trust will make a family trust election, can the new trust distribute franked dividends received from the company to the children of the husband and wife?
3. For purpose of the 15-year small business CGT exemption, will the trust be deemed to have acquired the shares at the time when the husband and wife originally acquired the shares?
1. The new small business restructure rollover rules cannot generally apply to situations involving the transfer of shares.
Firstly, unless mum and/or dad carry on a business in their own right as sole traders then the active asset test requires the shares to be used in a business carried on by a connected entity or affiliate that is a SBE. It would be difficult to argue that shares are used in a business.
Secondly, the rules require that the transaction is part of a genuine restructure of an ongoing business. It would be difficult to argue that transferring the shares in a company provides a benefit to the business.
2. If a discretionary trust does end up owning shares in the company and franked dividends are paid then it would normally be very difficult for the beneficiaries to pass the holding period rule to be able to claim the franking credits unless the trust makes a family trust election. The other main exception is where the beneficiaries are individuals and their total franking credits from all sources in that year does not exceed $5,000.
3. When the small business restructure rollover is used then the ownership period of the asset is not reset for the purpose of the 15-year exemption (although it is reset for the purpose of the CGT discount). As noted above, it is very unlikely that the small business restructure rollover can be used in this situation anyway.
4. Impact of changing partners in a partnership
A commercial property is owned by four individuals in the following percentages:
Partner 1 - 70%
Partner 2 - 15%
Partner 3 - 7.5%
Partner 4 - 7.5%
There is a partnership formed with the same percentage. Partner 3 and 4 are selling their share to another party, would this dissolve the partnership - meaning that a new ABN and TFN would be needed? Or, would this be a technical dissolution and it could be applied for the use of the same ABN and TFN?
Please note that the commercial property would be continued to be rented out and that no formal partnership agreement exists.
This seems to depend on whether the parties are carrying on a business as partners in a general law partnership in addition to holding the commercial rental property.
1. If the parties only hold a joint interest in a commercial rental property (i.e. tax law partnership) then the ATO's view is that when the ownership changes this cannot be treated as a continuing entity. It would be necessary to obtain a new ABN, GST registration etc. See the ATO’s confirmation of this at Changing the makeup of a partnership.
2. However, if the parties also carry on business and this gives rise to a general law partnership then while any change in composition would trigger a technical dissolution, the ATO accepts that the new partnership can be treated as basically the same as the old one for ABN, GST registration purposes etc. if certain conditions are met such as where there is a ‘continuity clause’ in the partnership agreement.
For a general law partnership to be treated as a continuing entity by the ATO there should be no break in the continuity of the enterprise / business. Indicators of continuity of the enterprise or business include:
- Substantially all of the partnership assets remain with the continuing partnership;
- The nature of the enterprise remains substantially unchanged;
- The client or customer base remains substantially unchanged; and
- The business name or name of the firm remains unchanged.
5. Small business CGT concessions and replacement assets
Just some questions regarding CGT small business concessions re rollover relief.
1. Can replacement assets be paid up capital in a new business?
2. Is it okay if the client is only one of the 3 shareholders in the new business?
3. Can he apply part of the capital gain to the new business, i.e. partially applying the rollover exemption? Or the cost of the replacement assets has to be higher than the capital gain?
1. Yes, although there are some extra conditions that may need to be met. For example, shares in a company can be replacement assets of an individual taxpayer under the small business rollover relief if:
- The shares are acquired within the period starting 1 year before and ending 2 years after the original CGT event;
- The shares pass the 80% test to be classified as active assets; and
- The taxpayer is a CGT concession stakeholder of the company or is connected with a CGT concession stakeholder of the company.
Slightly different rules apply when the taxpayer is a company or trust.
2. Yes, see comments above. To be a CGT concession stakeholder the taxpayer would generally need to have at least a 20% interest in the company (although it could be less if their spouse was a significant individual of that company).
3. If the cost of the replacement assets is not as least as much as the remaining capital gain then after 2 years the shortfall will basically be taxed under CGT event J6.
For example, assume someone has a gross capital gain of $100 that is reduced by the 50% CGT discount and 50% active asset reduction to bring the capital gain down to $25. Let's assume that they apply the rollover relief to the remaining $25. Within the next 2 years they acquire $20 worth of shares in a company that qualify as replacement active assets. The shortfall of $5 would be taxed under CGT event J6 when the initial 2 year period ends.