Tax Planning For XYZ Family Trust And Income Tax Consequences For Business And Profession

This question is related to topics specifically discussed in week 9.

The XYZ Family Trust (a discretionary trust) has derived the following income during the 2017 income year:

$10,000 interest on money deposited in an Australian bank account
$20,000 interest on money deposited in a US bank account
$14,000 fully franked dividend received from Australian listed companies
$20,000 capital gain from sale of shares in Australian listed companies
Assume that the trust has the following beneficiaries:

Tom (foreign resident) aged 19, no Australian assessable income and lives in the UK;
John (resident) aged 17 with a fulltime job and $36,000 annual income;
Carmen (resident) aged 2, no income;
Mike (resident) aged 15, a full time student in local school with no other income.
Alice (resident) aged 50 with wage income of $200,000, deduction of 20,000 and
capital loss of $35,000;
Advise the trustee of the Family Trust how to distribute the net income of the trust for the year ended 2017 so as to minimise the income tax payable by all the parties.

Question 2

This question is related to topics specifically discussed in week 7 – 9. Kevin and Ian are in a partnership as retailers of electrical goods. The partnership records, exclusive of GST, for the financial year ending 30 June 2017 disclose:

Net salary as a part-time instructor (excluding PAYG tax instalments of $2,000): $5,000 Subscription to professional journals: $1,000 Kevin and his family members are members of a private hospital fund Demonstrate the calculation process for determining Kevin’s tax liability for the year ended 30 June 2017, and explain your treatment of each item in this question.

Tax Planning for XYZ Family Trust

A trust can be defined as the obligations that are enforceable in terms of equity that rests on the person, the trustee as the owner of certain specific property. “Division 6 of the Part III of the ITAA 1936” includes the principle rules for imposing tax on the trusts. In wider terms the rules assesses the trust net income relating to the trust estate of the beneficiaries. However, if there are certain amounts that are the part of net income and are not assessed to the beneficiary it might be assessed to the trustee.

The present question is associated in providing advice to the XYZ family trust relating to the income derived during the financial year of 2017. The issue here is based on providing advice to the XYZ family to so that they can reduce their tax liability relating to the income derived from trust. An important aspects of the family trust can be forwarded is the distributions relating to the trust income. Initially, all the trust distributions should be made to the people that qualify for the distributions under the trust deed to the beneficiaries of the trust. Secondly, a recommendation can be provided to the trustee that distributions should be made only to the beneficiaries of the trust that fall within the family group.

Nevertheless, when the beneficiaries that receive the distributions from the trust, it is the beneficiary that would be required to pay the tax on the income. As a consequence, to reduce the tax liability of the trust an additional distribution can be made by the trustee in this situation to the beneficiaries that are in the low bracket of tax than the trustee itself. The practice of splitting the income or streaming can be considered as the beneficial method for XYZ trustee.

The trustee of XYZ should apply the 65-day rule that would provide the trustees with additional time following the end of the tax year to evaluate the income and tax liability of the trust and make additional discretionary distributions as this will help in shifting the income of the beneficiaries. The trusts with the calendar year end of March 2018 should elect to have the income distributed on September 30. This will help in shifting the income out of the trust and to the beneficiary.

The trustee of XYZ would be able to receive the deductions relating to the distributions that is made and the beneficiary would identify the income and their individual tax return. This would in turn lower the income that is taxed within the trust. Nevertheless, an important consideration can be bought forward by stating that any form of distributions that is aimed to reduce the income tax liability of the trust should be made inside the distribution parameters established inside the trust agreements and applicable ATO laws. The trustee can aim to reduce the trust income to the beneficiaries that are within the low bracket and are not subjected to surtax. The trustees of XYZ are also advised to shift the trust investments in order to reduce the taxable income.  

Income Tax Consequences of Receipts Obtained from Business and Profession

The current issue is based on determining whether the income tax consequences of receipts obtained from business and profession will be liable for taxation? Will the taxpayer be allowed deductions for expenses incurred under the provision of section 8-1 of the ITAA 1997?

1. “Ronpibon Tin NL v Federal Commissioner of Taxation (1949)”,
2. “Herald & Weekly Times v Federal Commissioner of Taxation”
3. “Scott v Commissioner of Taxation”
4. “section 6-5 of the ITAA 1997”
5. “Moore v Griffiths”

According to the Australian taxation office an individual at the time of determining the assessable income of their business is required to include the all the gross amounts receipts or proceeds that results from the ordinary business course and not simply the profit. As evident in the current situation of Kevin who is carrying on a business in partnership for retail electronic goods receives a gross amount of $200,000 from the trading activities.

Additionally, Kevin also received a bad debts recovered amount of $20,000. Therefore, under “section 6-5 (1)” the receipts from the gross trading amount will be included in the assessable income of Kevin the same results in the ordinary course of business. According to “subdivision 20-A”, the assessable income includes amounts that is received as recoupment for loss. This means that amount received is to reverse the impact of deductions. Additionally the bad debt recovery amount would be included in the assessable income since it represents income from to reverse the previous deductions.

Kevin reported certain payments that were related to the trading stocks. According to “section 8-1 (1)” purchase of trading stock are allowed for deductions. The payments incurred by Kevin for the purchase of trading stock can be claimed as allowable deductions for Kevin. Additionally a partner’s salary of $40,000 was reported. The partner’s salary cannot be allowed as deductions since salary constitute the business distributions and the same is not included for deductions.

According to “section 8-1 of the ITAA 1997” an individual is allowed to claim deductions for expenses that are incurred in producing the taxable income or the same is necessarily incurred in generating the assessable income. Similarly the interest expenses incurred forms the part of business expense that are incurred in producing the taxable income. Therefore, the interest expenses will be considered as allowable deductions.

For an expense to qualify as allowable deductions must meet incidental and relevant test. As held in “Ronpibon Tin NL v Federal Commissioner of Taxation (1949)”, for an expenses to be allowed as deductions in the form of outgoings, should be incurred in producing the taxable income. The expenses should be incidental and relevant to that extent. The expenses incurred by Kevin for the payment of salaries to employees will be considered as business expenses and the same can be considered as allowable general deductions under “section 8-1 of the ITAA 1997”. 

Assessable Income of Kevin

Kevin reported a legal expenditure that was incurred in recovering the bad debt. According to the decision held in “Herald & Weekly Times v Federal Commissioner of Taxation” the taxpayer was allowed to claim deductions relating to cost incurred in settling or defending the action for alleged defamation. Therefore, the expenses on bad debt recovery will be allowed deductions for Kevin.

Apart from the business activities Kevin also derived income from the person sources. According to “section 6 of the ITAA 1936” income from personal exertion represents income from salaries, wages, bonuses, or the proceeds from the business that are carried on the by the taxpayer either alone or in the form of partnership. Similarly the share of profits derived by Kevin from the partnership business along with the receipt of salary from the part time instructor forms the part of income from personal exertion and the same will be included in the taxable income.

According to “section 6-5 of the ITAA 1997” usually most of the income that comes in for a taxpayer is held as ordinary income. As held by the court of law in “Scott v Commissioner of Taxation” income as per ordinary concepts applies to in compliance with the ordinary concepts of the mankind. Similarly, the receipt of dividend income by Kevin will be considered as income from ordinary sources. With respect to “section 6-5 of the ITAA 1997” the dividend income will be included in determining the tax liabilities.

A meagre windfall gain cannot be held as having the character of income. The winning from gambling are not held as income unless the taxpayer is not carrying on the business of the gambling. As held by the court of law in the case of “Moore v Griffiths” a mere prize wining does not holds the character of income. Similarly, the winning from gambling by Kevin is not held as the assessable income and the same is not included in the taxable income.  

According to the Australian taxation Office an individual taxpayer can claim deductions for expense related to subscriptions given the same is predominantly used in earning the taxable proceeds which is not an income from the carrying on of the business. Similarly in the current instances of Kevin, an expense on subscription to professional journals was incurred and the same will be allowed for deductions.  

Conclusion: 

As evident from the computations, the total amount of taxable income for Kevin stands $95,000 with tax on taxable income consisting of $22,782. The total tax liability for the year ended 2017 for Kevin stands $16,382.

Computation of Assessable Income:

Working Note:

Reference List:

Barkoczy, Stephen, Foundations Of Taxation Law 2014

Brokelind, Ce?cile, Principles Of Law: Function, Status And Impact In EU Tax Law (IBFD, 2014)

Coleman, Cynthia and Kerrie Sadiq, Principles Of Taxation Law 2013

Grange, Janet, Geralyn A Jover-Ledesma and Gary L Maydew, 2014 Principles Of Business Taxation

James, Malcolm, Taxation Of Small Businesses 2014/15

Kenny, Paul, Australian Tax 2013 (LexisNexis Butterworths, 2013)

Krever, Richard E, Australian Taxation Law Cases 2013 (Thomson Reuters, 2013)

Morgan, Annette, Colleen Mortimer and Dale Pinto, A Practical Introduction To Australian Taxation Law (CCH Australia, 2013)

Robin, h. Australian taxation law 2017. Oxford University Press, 2017.

Sadiq, Kerrie et al, Principles Of Taxation Law 2014

Woellner, R. H et al, Australian Taxation Law 2014

Woellner, R. H, Australian Taxation Law 2012 (CCH Australia, 2013)