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Eric's Net Capital Gain/Loss

Over the last 12 months, Eric acquired the following assets: an antique vase (for $2,000), an antique chair (for $3,000), a painting (for $9,000), a home sound system (for $12,000), and shares in a listed company (for $5,000). Last week he sold these assets as follows: antique vase (for $3,000), antique chair (for $1,000), painting (for $1,000), sound system (for $11,000) and shares (for $20,000). Calculate his net capital gain or net capital loss for the year.

Brian is a bank executive. As part of his remuneration package, his employer provided him with a three-year loan of $1m at a special interest rate of 1% pa (payable in monthly instalments). The loan was provided on 1 April 2016. Brian used 40% of the borrowed funds for income-producing purposes and met all his obligations in relation to the interest payments. Calculate the taxable value of this fringe benefit for the 2016/17 FBT year. Would your answer be different if the interest was only payable at the end of the loan rather than in monthly instalments? What would happen if the bank released Brian from repaying the interest on the loan?

Jack (an architect) and his wife Jill (a housewife) borrowed money to purchase a rental property as joint tenants. They entered into a written agreement which provided that Jack is entitled to 10% of the profits from the property and Jill is entitled to 90% of the profits from the property. The agreement also provided that if the property generates a loss, Jack is entitled to 100% of the loss. Last year a loss of $10,000 arose. How is this loss allocated for tax purposes? If Jack and Jill decide to sell the property, how would they be required to account for any capital gain or capital loss? 

What principle was established in IRC v Duke of Westminster [1936] AC 1? How relevant is that principle today in Australia?

Bill owns a large parcel of land on which there are many tall pine trees. Bill intends to use the land for grazing sheep and therefore wants to have it cleared. He discovers that a logging company is prepared to pay him $1,000 for every 100 metres of timber they can take from his land. Leaving aside any capital gains tax issues, advise Bill as to whether he would be assessed on the receipts from this arrangement. Would your answer be different if he was simply paid a lump sum of $50,000 for granting the logging company a right to remove as much timber as required from his land? 

Eric's Net Capital Gain/Loss

The case depicts that Eric has acquired certain assets and has possession of those assets for less than a year. The determination of the eligibility of the capital gains from sale of assets could be validated only if the selling price of an asset is higher than the procurement cost of the asset. Furthermore, Eric is also liable to be exempt from indexation benefits owing to the possession of assets for a time less than a year (Beretta, 2017).

The information illustrated below can be implemented for calculation of capital profits on sale of assets by Eric as follows.

Asset

Cost Base of Assets

Capital Proceeds of Assets

Net Capital Profit/ (Net Capital Loss)

Home Sound System

12,000

11000

(1000) Loss

Shares in listed company

 5,000

20000

15000 Profit

Painting

 9,000

1000

(8000) Loss

Antique Chair

 3,000

1000

(2000) Loss

Antique Vase

 2,000

3000

1000 Profit

Net Capital Gain/Loss

5000 Profit

The definition of collectibles suggests that they are intended for satisfying the personal efficacies of an individual or fulfilling the self-esteem needs of an individual. Collectibles which are purchased at costs lesser than or equal to $500 imply that the profits obtained from their sale would be exempt from taxation. The collectibles that can be identified in the case of Eric comprise of an antique vase, an antique chair and a painting which were acquired at the procurement costs of $2000, $3000 and $9000 respectively (Blizkovsky, 2017).

Personal assets are acquired by an individual for addressing personal objectives or fulfilling the purpose of recreation. The personal assets acquired by Eric in this case can be identified as the shares of a publicly listed company at a procurement cost of $5000 and a home sound system for the procurement cost of $12000 (Bolong, 2015).

  1. The personal assets held by Eric were associated with procurement costs exceeding the permissible limit of $10000 thereby validating the capital gains from their sale eligible for taxation (Bolong, 2015).
  2. The collectibles observed in this case have been identified with procurement costs above $500 thereby implying taxation of capital gains obtained from sale of collectibles (de Cogan, 2015).
  3. The net profit for a year can be calculated through subtracting the annual capital losses from the capital profit.

Brian has received a $1 million loan for a period of three years from his employers with the privilege of 1% interest rate. The provision of 1% interest rate classifies the loan as a fringe benefit since the interest rate is far below the prevailing interest rates in the market (Derzi, Moreira & de Moura Fonseca, 2017). Hence taxation on loan amount could be reflective of the involvement of statutory interest rate of 5.65% alongside the actual interest rate of the loan i.e. 1%.

Initial Stage

Loan fringe benefits are calculated according to deductible rule which implies subtraction of interest based on actual rate of interest from the interest derived using statutory rate of interest (Houqe & van Zijl, 2015).

Interest based on statutory interest rate= $1000000*5.65%= $56,500

Interest based on actual interest rate= $1000000*1%= $10,000

Hence, loan fringe benefits = $56,500- $10,000= $46,500

2nd one

This step is associated with an assumption of the interest as the real amount payable.

Taxable Value of Fringe Benefit for Brian

Interest calculated using statutory interest rate= $1000000*5.65%= $56,500

3rd One

The investment of 40% of the loan in future obligations by Brian requires estimation of tax deductible interest expense.

Hypothetical tax deductible interest expense = $56,500*40%= $22,600

4th One

Real tax deductible interest expense = $10000*40%= $4000, which is calculated on the interest derived using actual rate of interest.

5th One

This step involves the outcome of subtracting real tax deductible expense from the hypothetical tax deductible interest expense which is,

$22,600- $4000= $18,600

6th One

The total tax amount payable by Brian is estimated through subtraction of above estimated figure from the loan fringe benefits identified in the case of Brian.  

Hence, the tax payable = $46,500- $18,600= $27,900

The interest can be paid at the termination of period of the loan or in monthly instalments. The deemed period is different in each instance since it would be considered from the time when the interest becomes payable in the former case and in the case of monthly instalments, the deemed period is assumed from the time when the instalments begin. Under the concerns in which Brian is not liable to repay the interest, the estimation of total tax payable could be realized through a similar approach stated above with specific emphasis on a zero percent actual interest rate.

The question involves references to the case of Jack and Jill, who are husband and wife, and their involvement in an agreement for renting a property. The agreement clearly entitles Jill to 90% of the profits while allocating privileges for the remaining 10% to Jack. The agreement also implies emphatically that Jill is not accountable for any sort of losses incurred in context of the property with Jack bearing responsibility for all the losses (Houqe & van Zijl, 2015). The case also refers to the loss of $10000 incurred with respect to the property last year for which Jack is solely accountable. Since Jack is responsible for the losses, he has to opt for approaches to address the losses in his account management prior to the evaluation of taxability. Jack could offset the loss through income acquired from his other sources of income or he could prefer to carry forward the loss to the next year. The carrying forward of the losses to next year could be considered feasible until the point where decision for sale of property is taken (Jha, 2013). The sale of property can be leveraged by Jack for offsetting the loss of $10000 from the profits gained out of the sale of the property. In instances where the property is capable of generating profits, it is imperative to observe that the distribution of profits among Jack and Jill would be according to the precedents of the agreement in the respective shares of 10% and 90%. Hence it can be concluded that Jack is accountable for losses related to property in context of the agreement while Jill in not held responsible for any implications related to financial transactions in context of the property (Jian-wen, 2014).

Allocation of Loss for Tax Purposes for Jack and Jill

The question reflects on the case of IRC v Duke of Westminster [1936] AC 1 which provides viable insights into the rights of an individual or business to utilize legal strategies and resources for depreciating the net taxable income at the end of the year. The case provided prolific insights that helped in determining these principles:

  • An individual could rightfully utilize strategic approach to reduce their net taxable income
  • Ethical measures are the benchmark for the approaches followed by an individual to reduce total income
  • Adopting legal strategies and means imply that the measures could not be subject to questioning by legal authorities

However, the implementation of the above stated principles has to be critically reviewed in context of the new case laws. The contemporary case laws provide assistance to organization’s in modifying their financial management through legal means in case the organization is facing losses (Lang, 2016). In such cases, the new laws apply specifically to the rights of the business owners to write off fixed assets at intended values as well as the modification of statistics in the balance sheet of the organization. It is also imperative to observe that these new case laws imply that organizational transactions vested in supporting the operational dimensions of an enterprise could not be questioned (Mehrotra, 2013).

The question emphasizes on the case of Bill, owner of a large piece of land populated with big pine trees. The motive of Bill for transforming the piece of land into a grazing ground for sheep prompted the hiring of services of a logging company. The payment obtained by Bill for the clearing of the timber from the piece of land has to be subject to the concerns of taxation since there are two distinct forms of payment observed from the case. One payment method is observed in Bill receiving a lump sum amount of $50000 at once and the other involved Bill receiving $1000 for clearance of 100m of timber from the property of Bill (Mehrotra, 2013). The lump sum amount of $50000 can be classified as a capital receipt since it is received one-time alongside being characterised by the transfer of rights to another party i.e. the logging company for clearing the pine trees (Jian-wen, 2014). Therefore the income can be subject to the capital gains tax. On the other hand, the second form of payment involves Bill receiving recurring receipts which exempt the income from capital gains tax. However, the income classified according to recurring receipts would be taxable with the normal interest rates.

References

Beretta, G. (2017). The Brisal and KBC Finance Decision: Once Again the CJEU Assesses the Compatibility with EU Law of Gross Withholding Taxation of Non-residents. EC Tax Review, 26(4), 193-200.

Blizkovsky, P. (2017). G20 Economic Coordination and the Rule of Law: A Case of Taxation. European Business Law Review, 28(3), 271-282.

Bolong, S. (2015). Establishment of Taxation Legalism in Taxation System Reform——A Sociology-of-Law Analysis. Journal of Southwest Petroleum University (Social Sciences Edition), 5, 015.

de Cogan, D. (2015). A changing role for the administrative law of taxation (vol 24, pg 251, 2015). SOCIAL & LEGAL STUDIES, 24(3), 483-483.

Derzi, M. A. M., Moreira, A. M., & de Moura Fonseca, F. D. (2017). Income Taxation in Brazil: A Comparative Law Approach. In Taxation and Development-A Comparative Study (pp. 77-93). Springer International Publishing.

Houqe, N., & van Zijl, T. (2015). Centre for Accounting, Governance and Taxation Research School of Accounting and Commercial Law Victoria University of Wellington PO Box 600, Wellington, NEW ZEALAND Tel:+ 64 4 463 5078.

Jha, K. (2013). Taxation Law. 2013, BA, LL. B-2009 & LL. B-2011.

Jian-wen, L. I. U. (2014). The Development of Fiscal and Taxation Law in Foreign Countries and Its Inspiration to China. Journal of Science, Technology and Law, 5, 004.

Lang, M. (2016). State Aid and Taxation: Selectivity and Comparability Analysis. In State Aid Law and Business Taxation (pp. 27-38). Springer Berlin Heidelberg.

Mehrotra, A. K. (2013). Making the Modern American Fiscal State: Law, Politics, and the Rise of Progressive Taxation, 1877-1929. Cambridge University Press.

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[Accessed 23 February 2024].

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