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A) Prepare Janet Brown’s statement of taxable income and calculate her total tax liability (including Medicare Levy) for the year ending 30 June 2018. State all calculations and include explanatory notes and supporting schedules, applying legislation and case law.


B) Prepare a letter of advice on the tax consequences in relation to the legal fees and damages paid by Janet for
the year ending 30 June 2018.


C) Write a short explanatory note to BMA explaining any tax liabilities that may arise in connection with the provision of benefits to Janet Brown. State relevant calculations and applicable legislation. 

Part A

The Income Tax Assessment Act 1997 under section 4-1 provides that an individual, company or any other entity is required to pay tax on the taxable income. The section 4-15 of the Income Tax Assessment Act 1997 states that taxable income can be calculated by deducting allowable deduction from the assessable income. The Income tax law classifies the assessable income as the ordinary income and the statutory income. The section 6-5 of the ITAA 97 provides that income according to the ordinary concept is known as the ordinary income. The section 6-10 provides that income that are not ordinary income according to the ordinary concept is known as the statutory income. These are included in the assessable income by way of specific provisions. The expenses that are allowed as deduction from the assessable income are included in the Division 8 of the ITAA 97. The division allows two types of deductions general deduction that are included in the section 8-1 of the ITAA 97 and the specific deduction provided under section 8-5 of the ITAA 97.

In this case the taxable income of Janet Brown is prepared and for that all the receipts and deductions are analyzed to determine the taxable income. The discussion are provided below:

In this case it can be seen that Janet Brown has taken loan of $400000 from BMA on July 2017. The interest rate of 3% was charged on the loan amount. It can be seen that the loan was used for purchasing an investment property and for renovating the personal house. The income from investment property is included in the assessable income. The section 8-1 of the ITAA 97 provides that an expenses is allowed as deduction if it is useful in generating assessable income. In this case the interest paid for the part of $300000 amount that is used for purchasing the investment property will be allowed as deduction. The interest paid for the $100000 part of the loan will not be allowed as deduction as it is an expenditure of personal nature.  

The section 15-2 of the Income Tax Assessment Act 1997 provides that any benefit or allowances provided by the employer to the employee that is directly or indirectly related to the employment are included in the assessable income. The section 7 of the Fringe Benefit Tax Assessment Act 1986 provides that car benefit should be treated as fringe benefit if the employee is allowed to use the car for personal use or it is available to the employee for the personal use. In this case it can be seen that a car was provided to Janet for commuting to the office and it is also avail be for her personal use so it is a reportable fringe benefit. The reportable fringe benefit are not included in the calculation of the assessable income. In this situation it is important to understand the relationship between the income tax act and the fringe benefit tax. It should be noted that if a benefit is considered as fringe benefit then it is taxed under fringe benefit tax and is not included in the assessable income as per the Income Tax Assessment Act. In the current case the benefit is a fringe benefit and hence it is not included in the assessable income.

Interest on Loan

The rent received from investment property is an assessable income. As discussed earlier it can be seen that expenses incurred for producing assessable income is allowed as deduction. However, the section 8-1(2) of the ITAA 97 clearly states that expenses or loss that is of capital or private nature is not allowed as deduction. In this case cost that has been incurred for replacement of roof is a capital expenditure hence not allowed as deduction. The AC system is a capital assets so the expenses incurred for that is not allowed as deduction.

The capital gain is a statutory income and it should be included in the assessable income as per section 102-5 of the ITAA 97. The profit or loss made from sale of shares should be included in the assessable income. The section 118-10(1) states that capital gain or loss made from the personal use assets and collectable should be disregarded provided the cost or market value of the assets is less than $500. In this case, Janet purchased doll for $1000 so the cost is more than $500 hence the exemption does not apply.

The legal expense are allowed as deduction but the damages paid are not allowed as deduction. The detailed discussion is provided later.

The calculation is provided below:

Janet Brown

Statement showing Taxable income and tax Liability

Particulars

Reason

Amount

Amount

Assessable Income

Rental Income

S 6-5 ITAA 97

 $      25,000.00

Sales of Telstra shares

S 102-5 ITAA 97

 $      10,000.00

Less:

Cost of acquiring

 $        5,000.00

Capital gain

 $        5,000.00

Less:

Deduction @50%

 $        2,500.00

Net Capital Gain

 $        2,500.00

Sales of Orica Shares

S 102-5 ITAA 97

 $        6,000.00

Less:

Cost of acquiring shares

 $      10,000.00

Capital gain/(Loss)

 $      (4,000.00)

Sales of Doll

S 118-10 ITAA97

 $        5,900.00

Less:

Cost of acquisition

 $        1,000.00

Gross Capital gain

 $        4,900.00

Less:

Deduction @ 50%

 $        2,450.00

Net capital Gain

 $        2,450.00

Total Assessable Income

 $      25,950.00

Allowable Deduction

Interest

S 8-1 ITAA 97

 $        9,000.00

Legal fees

S 8-1 ITAA 97

 $      25,000.00

Total Allowable Deduction

 $      34,000.00

Net Taxable Income

 $      (8,050.00)

Tax Payable

Nil

To

Janet Brown

Subject: Advise relating to the claim of legal fees and damages in the current year.

 Dear Madam,

This letter is in response to the request of seeking advice related to the claim of legal fees and damages in the current year. The main aim of this letter is to provide advice to the tax treatment of the legal fees that have been incurred and damages that have been paid to the neighbors of the Newport townhouse. In order to provide the advice relevant legislations and ruling have been discussed. The entire advice have been classified into two parts the deductibility of legal expenses and the deductibility of damages.

The taxpayer is allowed to claim deduction from the assessable income for the purpose of computing the taxable income. The deduction that are allowed under the Income Tax Assessment Act 1997 are provided under the Division 8 Deductions. The deduction can be classified into general deduction that are provided under section 8-1 of the ITAA 97 and the specific deduction that are provided under the section 8- 5 of the ITAA 97. The specific deduction are further classified into statutory entitling provision and the statutory disallowing provision. The legal expenses can be specific deduction, general deduction or both and is entirely dependent on the character of the legal work performed. 

The section 8-1 of the Income Tax Assessment Act 1997 is the key provision that deals with the deductibility of expenses. The section 8-1 of the ITAA 97 states that the taxpayer is allowed to claim deduction from the assessable income any loss or outgoings that is incurred for the purpose of producing assessable income. The section also provides that the taxpayer is allowed to claim deduction for the expenses that have been incurred for carrying on the business or for producing assessable income. The section further provides that the taxpayer is not allowed to claim loss or outgoing under this section that is of capital nature and private or domestic nature. In order to decide whether an expenses is allowed as general business expenses there are number of hurdles that should be considered before claiming legal expenses as deduction. In the case of Magna Alloys & Research Pty Ltd v. Federal Commissioner of Taxation 80 ATC 4542 the court have determined that the legal expenses incurred by a business is allowed as deduction if it arise out of the day to day business activity of the tax payer. It should be noted that the legal expenses incurred should have peripheral connection to the activity of the business in order to be deductible. The legal expenses character is the advantage that have been sought for incurring the expenditure. That means if the advantage is of the capital nature then the expenses that have been incurred for the legal expenses will also be considered as that of the capital nature. It is therefore necessary for a business to determine whether the legal expenditure should be necessary for incurring the business. Therefore based on the above discussion it can be said that the taxpayer is allowed to claim deduction for the expenses that have been incurred for producing the assessable income.

Car Provided by BMA

In the current scenario Janet has purchased a Newport Town house and has rented it on $2500 per month. The rent is an assessable income under section 6-5 of the Income Tax Assessment Act 1997.  Therefore it can be said that as per discussion the legal fees that have been incurred for defending in the court will be allowed as deduction.

The ATO Interpretative Decision ATO ID 2002/63 deals with the issue whether the taxpayer is allowed to claim deduction under section 8-1 of the Income Tax Assessment Act 1997 for the damages payment that have been made by the taxpayer. It provides that the taxpayer is not allowed to claim deduction for the damage payment under section 8-1 of the Income Tax Assessment Act 1997 as these expenses are not incurred in connection with the producing of the assessable income. In this case Janet had to pay for the damages as the court awarded the damage as it held that the fence is really on the property of the neighbor. This damage did not arise as a result of earning assessable income and hence it is not allowed as deduction under section 8-1 of the Income tax Assessment Act 1997.

Based on the above discussion it can be said that the legal expenses is allowed as deduction. However the expenses for the payment of damage will not be allowed as deduction under section 8-1 of the Income Tax Assessment Act 1997. It is expected that the above letter clears all the doubt relating tax treatment of the expenses. If there are any further clarification required please feel free to ask and response will be provided in a timely manner.

Thanking You

The Fringe Benefit Tax Assessment Act 1986 deals with the administration of the fringe benefit tax. It states that an employer is required to pay certain fringe benefit tax for the benefit provided to the employees.  There benefit for which BMA will be required to pay tax is the Car fringe benefit. The method that is applied for determining the taxable amount of the car fringe benefit is the statutory formula. The calculation shows:

                                     

The fringe benefit tax rate is 49% so the FBT tax payable by BMA is (60000X49%) = $29400. The loan provided by BMA to Janet is not included in the assessable income as the information is not provided whether the loan are provided at a lower interest rate.

Reference:

Braverman, Daniel, Stephen Marsden, and Kerrie Sadiq. "Assessing Taxpayer Response to Legislative Changes: A Case Study of In-House Fringe Benefits Rules." J. Austl. Tax'n 17 (2015): 1.

Du Plessis, C.J., 2015. The capping of the deductibility of retirement contributions for tax: a comparison between South Africa and developed countries (Doctoral dissertation, North-West University (South Africa), Potchefstroom Campus).

Edmonds, Richard. "Structural tax reform: What should be brought to the table." Austl. Tax F. 30 (2015): 393.

Farrell, Jan. "Tax and Time Travel: Looking Back and Looking Forward-A Tax Administrator's Perspective." J. Australasian Tax Tchrs. Ass'n 11 (2016): 27.

Gitman, Lawrence J., Roger Juchau, and Jack Flanagan. Principles of managerial finance. Pearson Higher Education AU, 2015.

Griffiths, Justice John. "Recognition of Foreign Administrative Acts in Australia." In Recognition of Foreign Administrative Acts, pp. 51-89. Springer International Publishing, 2016.

Hodgson, Helen, and Prafula Pearce. "TravelSmart or travel tax breaks: is the fringe benefits tax a barrier to active commuting in Australia? 1." eJournal of Tax Research 13, no. 3 (2015): 819.

Hurley, T., 2014. Case notes: The latest from the high and federal courts. LSJ: Law Society of NSW Journal, 1(3), p.84.

Martin, Fiona. "To Be, Or Not to Be, a Charity: That Is the Question for Prescribed Bodies Corporate under the Native Title Act." Deakin L. Rev. 21 (2016): 25.

Mihaylov, George, John Tretola, Alfred Yawson, and Ralf Zurbruegg. "Tax compliance behaviour in Australian self-managed superannuation funds." (2015).

Stewart, M., 2015. Looking forward at 100 Years: Where Next for the Income Tax. Austl. Tax F., 30, p.667.

Tran-Nam, Binh. "Tax Reform and Tax Simplification: Conceptual and Measurement Issues and Australian Experiences." In The Complexity of Tax Simplification, pp. 11-44. Palgrave Macmillan UK, 2016.

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