Describe about the Australian Taxation Law for Money Lending.
The main issue in regards to this case is to opine on the nature of the payments derived by Hilary with particular reference from income from personal exertion. The summary of the relevant facts is presented below.
A payment of $ 10,000 was received from the newspaper (“The Daily Terror”) and this was made in lieu of the rights, title and copyright of the story written by Hilary.
A payment of $ 5,000 was received from the Mitchell Library on account of the manuscript.
A payment of $ 2,000 was received from the Mitchell Library on account of the photographs which Hillary clicked on her expedition.
Additional relevant information that is given is that Hilary has accumulated fame on account of her skills as a mountain climber and further, she had no experience in writing a book as she has never written one before.
The income or receipts that the concerned taxpayer derives would fall in either of the following two categories (Coleman, 2011).
Capital Receipts – Capital receipts are derived when a there is a transfer of capital asset and such receipts are not taxed. However, any capital gains that may be derived in this process would be charged with CGT as per Section 10(5), ITAA 1997.
Revenue Receipts – Revenue receipts are typically derived when the concerned taxpayer offers service to another party and in return earns income. Further, these may also be derived from business activities. Such receipts are taken into consideration for computation of ordinary income in accordance with Section 6(5), ITAA 1997.
Considering the differential tax treatment, it becomes pivotal to segregate the two in accordance with relevant norms and set precedents. A suitable precedent for the given situation could be the Brent vs Federal Commissioner of Taxation (1971) 125 CLR case. The nature of the payments received by the appellant was the key issue of the case. The income tax authorities claimed that income derived is ordinary while the appellant maintained that receipts were capital and hence non-taxable (CCH, 2011).
The appellant’s husband was part of a famous robbery and was behind jail. The wife accepted an offer from a newspaper whereby her role was to share her relationships with her husband to the newspaper’s journalist though interviews. These interviews continued over some days (4-6 days) during which the journalist got the relevant information and then published a book on the same which was authenticated by the wife through her signature on every page (Gilders et. al., 2015). The court opined that the payments derived would be capital in nature as the payment derived was for the transfer of information which acted as the core asset which the newspaper was seeking, Further, since the appellant granted copyright with regards to the narrated information, hence the information asset was sold to the newspaper and payment was derived in the process. Hence, this payment was treated as capital receipts and exempted from tax (Woellner, 2013).
The verdict of the court in the discussed case needs to be applied to this case dealing with Hilary. On the face of it, it may seem that the income is earned due to personal exertion as Hilary actually indulged in writing the book. However, it is imperative to note that she had never written anything before and no one would approach her for any writing contract as the commercial value of her literary skills was practically zero. The offer from the newspaper was primarily for the information about Hilary’s personal life which she had and through the medium of book, the newspaper wanted to gain access to that information. Writing is just incidental and a manner of capturing that information for the newspaper. Similarly, with regards to photographs and manuscript also, the payment has not been essentially made for photography or writing skills but for the fact that it deals with a famous personality Hilary. Thus, all the payments outlined above would be termed as capital receipts and may attract only capital gains tax limited to any capital gains made.
The payments obtained by Hilary are non-assessable because of their capital nature.
(b) The given case indicates to change of intention on Hilary’s part to engage in writing from profit making to self=satisfaction. The receipts obtained would still continue to be classified as capital receipts as the activity of writing is not the source of income and hence the underlying intention ceases to make any difference. Essentially, through the sale of copyright, the asset transferred is information which Hilary even had before the book writing and hence payments would be capital.
A parent extends short term housing loan to the extent of $ 40,000 to the son who makes a promise to pay a sum of $ 50,000 in five years time where the incremental $ 10,000 is the interest payment computed @ 5% pa. However, the parent communicates to the borrower that no interest payment is required or desired but only timely repayment must be done (Barkoczy, 2014).. The borrower clears the debt after two years by presenting a cheque of $ 44,000 to the parent. In light of the above facts, the impact of the above transaction on parent’s assessable income needs to be discussed keeping in mind relevant tax law.
Depending upon the underlying nature and intent of the payment received, it may be classified as income or gift. This difference assumes significance as gifts are free from any tax burden (Deutsch et. al., 2015). With regards to identification of gift, certain pre-requisite are to be observed that are listed below (ATO, nd).
- The ownership change needs to take place in favour of the transferee.
- The transfer should be done in a voluntary manner without any force or demand from the other party.
- The transferor should not expect any gains to arise from the transfer either immediately or at a later time.
- The transfer must be driven by personal affection and overall benefaction.
Interest payments are termed as ordinary income provided they are either earned from an security or account which bears interest or engagement of the concerned taxpayer in any particular business activity which involves money lending (CCH, 2011). In this regard, it is worth mentioning that regular receipt of interest in not necessary and any one time interest paid in above cases would also be covered under ordinary income (Sadiq et. al., 2014)..
It needs to be ascertained if the transaction of money lending is of commercial nature or not. Following facts are noteworthy in this regard.
Lender lent the money without aim to earn interest and even communicated the same to borrower.
There was no documentation for loan and no collateral was even asked for. These are the routine steps in any commercial money lending activity so as to safeguard the interest of the lender.
It is clear from the above observations that the parent engaged in casual lending which cannot be considered as a commercial transaction.
In the given transaction, out of the cheque of $ 44,000, $ 40,000 is regarded as the capital receipt and hence non-taxable. The additional payment received to the tune of $ 4,000 is gift as explained below.
The gift amount of $ 4,000 has been given to mother through the means of a cheque in her favour.
The son had no obligation to make this payment and hence it is made voluntarily.
The son does not expect any favours to be derived from the mother by making this transfer of $ 4,000.
The transfer is driven by the personal bond and benefaction in the relationship.
Based on the above discussion, it may be concluded that no addition would be realised to parent’s assessable income on account of the given transaction.
There are namely two methods that an individual taxpayer could deploy to compute taxable capital gains when long term capital gains are realised on sale of capital asset. One of the available methods is discount method as per which the concerned taxpayers are entitled to a 50% rebate in capital gains (CCH, 2011). Another method is cost indexation which relies on inflation causing an increase in the asset’s cost base for reduction in CGT liability. The applicability of CGT is driven by a host of factors and one of these is the acquisition date of the asset. In the given case, the land was acquired in 1980 while the house was subsequently constructed in 1986 only, thus leading to two capital assets which require separate discussion (Woellner, 2013).
The land would be CG exempt as its acquisition date belongs to the pre –CGT era (Sadiq et. al., 2014). The valuation of land when construction took place stood at $90,000.
Thus, % of property value on account of land = (90000/150000)*100 = 60%
Since the market value of property currently is $ 800,000, thus proportionate value of land is 60% of this amount which comes out as $ 480,000.
Since land is CGT exempt, hence this component of the property’s value will not attract any CGT.
As the construction commenced in 1986 i.e. after September 20, 1985, hence CGT would be applicable on the house (Gilders et. al., 2015).
Since 60% of the property’s value is on account of land, hence only 40% of the valuation derives from house.
Component of property which would be subject to CGT = 0.4*800000 = $ 320,000
Capital gains arising on sale of house = 320000 – 60000 = $ 240,000
As a rebate of 50% is available, hence CGT would apply only on half of $ 240,000 or $ 120,000 only.
Here, adjustments need to be made to the construction cost to account for inflation.
Construction cost (adjusted for inflation) = (68.72/43.2) * 60000 = $ 95,400
Hence, capital gains on house subject to CGT = 320000 – 95400 = $ 224,600
Apparently, Scott would act rationally and choose the method which lowers his net liability which would be discount method and hence the taxable component of capital gains arising from sale of property amounts to $ 120,000 (Deutsch et. al., 2015).
On occasions where the capital asset is sold at a price significantly in deviation with the market value, Section 116-30(2) needs to be applied for capital gains computation, As per this, the capital gains are computed using the greater value of the following two values (AustLii, nd).
The actual sales proceeds obtained by the seller
The estimated ongoing market value of the asset
Applying the above in the given case, out of the sales proceeds of $ 200,000 and estimated market value of $ 800,000, the higher value is $ 800,000. Thus, the taxable component of capital gains will amount to $ 120,000 as has done in part a.
It is noteworthy that discount method can be used only by individual taxpayers and it is not available for companies. The only viable option for companies is the indexation computation method (Coleman, 2011). Hence, due to change in ownership structure, there would be a change in the capital gains available for CGT taxation as now the indexation method would be applicable and the value would be $ 224,600.
ATO nd, Gifts and Donations, Australian Taxation Office, Available online from https://www.ato.gov.au/Individuals/Income-and-deductions/Deductions-you-can-claim/Gifts-and-donations/ (Accessed on August 25, 2016)
Austlii nd, INCOME TAX ASSESSMENT ACT 1997 - SECT 116.30, Austlii Website, Available online from https://www.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s116.30.html (Accessed on August 24, 2016)
Barkoczy, S 2014, Foundation of Taxation Law 2014, 6th eds., CCH Publications, North Ryde
CCH 2011, Australian Master Tax Guide 2011, 49th eds., Wolters Kluwer , Sydney
Coleman, C 2011, Australian Tax Analysis, 4th eds., Thomson Reuters (Professional) Australia, Sydney
Deutsch, R, Freizer, M, Fullerton, I, Hanley, P, & Snape, T 2015, Australian tax handbook 8th eds., Thomson Reuters, Pymont
Gilders, F, Taylor, J, Walpole, M, Burton, M. & Ciro, T 2015, Understanding taxation law 2015, 8th eds., LexisNexis/Butterworths.
Sadiq, K, Coleman, C, Hanegbi, R, Jogarajan, S, Krever, R, Obst, W, and Ting, A 2014 , Principles of Taxation Law 2014, 7th eds., Thomson Reuters, Pymont
Woellner, R 2013, Australian taxation law 2012, 6th eds., CCH Australia, North Ryde
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