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Taxation Law And Practice Policy

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Question:

Discuss about the Taxation Law and Practice Policy.
 
 

Answer:

Introduction:

The taxpayer was engaged in the business of providing dancing lessons in lieu of fees paid in advance. The advance fees paid by the students were placed under “suspense account” by the taxpayer. The taxpayer described this suspense account as “Unearned deposit- untaught lessons account”. The taxpayer followed the practice of transferring the advance fees received from advance account to revenue account after providing the dance classes to the students. There was an agreement between the taxpayer and the students that advance fees paid to the taxpayer will not be refunded. In practice, the taxpayer refunded the advance fees received from the students if not all the classes are provided to the students (Long et al., 2016).

The taxpayer did not treat the prepaid tuition fees received from the student as income derived. The fees were only included in the assessable income when the taxpayer provided the tution. Therefore, while calculating the assessable income only fee of the dancing lessons that has been provided during the income year is included by the taxpayer (Berger, 2016). The commissioner on receipt basis calculated the assessable income of the taxpayer. The fees that were received in advance were included in the assessable income of the taxpayer in the year of receipt and not in the year, the service was actually provided as per section 25(1) of ITA Act 1936.

 

The issue before the court was to determine whether the prepaid fees received should be included in the assessable income of the taxpayer in the year the dancing classes are provided or in the year, the prepaid fees are received (Brown, 2016).

The taxpayer derived the income in the year the dancing classes are provided and not in the year the prepaid fees were received was held by the high court in this case. If the fees are received in advance then the general rule is that prepaid fees received should not be considered as income and should not be included in the assessable income for the tax purpose (Tran, 2015). The student and the taxpayer had an agreement that the fees that were prepaid by the student will not be refunded.  In general, practice the taxpayer refunded the fees of students that did not complete the lessons. Therefore, there exists a possibility that the prepaid fees will be refunded to the students so it was further held by the court that such receipt of advance fees could not be included in the assessable income of the taxpayer.

The income derived during the income year should be included in the assessable income of the taxpayer as per section 6-5 of the income tax assessment act 1997. It is considered as income derived if the amount is received by the taxpayer or any one behalf of the taxpayer as per section 6-5(4) of ITA Act 1997. There are two methods of recognizing income for the purpose of tax this are “earnings method” and “receipts method”. The method that appropriately reflects the income of the taxpayer in the income year should be chose for determining income for tax purpose. The Para 19 of the Taxation Rule 98/1 states that as per general rule the receipt method is considered appropriate for the purpose of determining income derived from non business income, income derived from employment and income derived from investment (Dunne et al., 2014). In case of earning method, the general rule is that this method is considered appropriate if the income is derived from the business of trading and manufacturing as per Para 20 of the Taxation Ruling 98/1. In most cases for the purpose of tax, the earning method is considered as the most appropriate method for determining income.

In this case, the RIP Pty Ltd is engaged in the business of providing services related to funerals. The company during the income year 30 June 2016 made a profit of $2.45 million. The main revenue of the company was generated from providing funeral and other ancillary services. The company collected the fees from the customers under different options this are given below:

  • Fees are received from customer by issuing an invoice of net 30 days.
  • Fees are received from external insurance companies by issuing a net 30 days invoice.
  • Fees are also received from financing company RIP Finance ltd that under installment payment plan provides credit to the customers.
  • Fees are also received from the contribution made by the customers under easy future plan.
 


As per the general rule, the earning method mostly appropriately reflects the business income derived during the year.  The income should be immediately recognized by RIP because the company derives income as soon as service is provided. The company raises a 30 days invoice after providing the services according to the established procedures (Saad & Udin, 2016). The company should not wait until it receive its payment for recognizing income because as per earning method the income is derived as the service that is required to be provided has been provided. Therefore, the company should recognize revenue after the service is provided and the invoice is raised.

The company runs a scheme of easy future plan and under that scheme company receives fees in advance installments and agrees to provide the funeral service at a later date in future. This fees that are received from the customers in advance are non refundable. In case a customer fails to complete all the installment payment that are require under the plan then the fees are forfeited by the company. These forfeited fees are transferred to forfeited payment account. The company does not have any liability of providing service to those members for whose fees has been forfeited so this forfeited amounts should be immediately recognized as revenue. Based on the above analysis it can be concluded that income is derived as the funeral services is provided by the RIP Pty Ltd.

The high court in the case of Arthur Murray stated that in the year the service is provided the taxpayer derive income in that same year. The general rule is that the advance fees received is recognized as income in the year the service is actually provided. The RIP Pty Ltd in easy future plan agrees to provide funeral service in future and receives advance fees in installments. The advance fees received by the company under the scheme are treated as income in the year the advance is received. The circumstances of this case and that of the case of Arthur Murray is almost similar so the principles of accounting treatment established under that case is applicable for the treatment of advance fees received under the easy future plan (Dunne et al., 2015). On the basis of the principle established in the case of Arthur Murray the advance fees received under the easy future plan should not be included as income in the year the advance is received but it should be recognized in revenue in the year the funeral service are actually provided.

The ordinary incomes as per section   6-5 of the ITA Act 1997 can be accounted under two methods for the purpose of tax as per Taxation Ruling 98/1. The two methods of earnings as mentioned in Taxation ruling 98/1 are earning method and receipt method. If the income is derived in the year, the actual or constructive income is received then this method of recognizing revenue is known as receipt method. The receipt method is also commonly known as cash received basis or cash basis. It is also provided in section 6-5(4) of the ITA Act 1997 that it will be considered as income derived although it is not received by the taxpayer but someone self on behalf of the taxpayer (Bray, 2014). There is another method for determining income for the purpose of tax that is earning method which is also known as cash and credit method or accrual method. Under this method, it is considered as income derived when the income is earned and a debt that is recoverable under the law is created. After the task that is required to be performed under the agreement is performed then the taxpayer can legally demand the amount this is known as recoverable debt. The discussion above highlights that the taxpayer and the commissioner has two methods of accounting for the purpose of tax this are earning method and receipt method. The method that appropriately reflects the income derived during the year should be chosen for determining income for the purpose of tax.

 


The RIP Pty Ltd under easy future plan receives fees in advance installments from the customers. The company usually forfeits the fees received if the customer fails to pay all the required installments. The fees that are forfeited are transferred to a separate account called forfeited payment account. The company is no liable to provide the funeral services under easy future plan because the customer has failed to pay all the installments that are required to be paid under this plan (Dunne et al., 2016).  The current scenario of the given case is that the company has no liability to provide services and the fees that are forfeited are non-refundable so it is advised to the company that the forfeited account balance should be recognized as income. Therefore the balance of $16200.00 should be treated as income.

As stated in the “section 70-10” in the “ITA Act 1997”, the trading stock is considered as any form of commodity which has been considered for the purpose of sale, exchange or manufacture purpose in the ordinary line of the business. For the understanding of the nature of the stock and defining, the important concerns in the ordinary course of the business. It is essential, for a business to consider the different types of the trading stock, items that has to be included in the financial, agreement or the assets related to capital gain tax, as per the section 70-25 stated in the ITA Act 1997. It had been stated that the amount incurred should not be inform of capita, in nature. In the given case it has been shown that RIP has bought caskets and accessories, which was used by the company in form of the ordinary proceedings of the business proceeding of the company. Hence, it has to be treated as a trading stock, item of the company (Saad & Udin, 2016).

According to Chi et al., (2013), it had been further stated that the amount  incurred for the purchase of the stock related to the trading falls under the category of the deductible overheads as per the rulings made in the “section 8-1 of the ITA Act 1997” (Maffini, 2013). The rulings of the section 70-15 of the income tax act 1997 the amount incurred for the purchase of the trading stock needs to be  deducted from the general, overhead  category  and it has to be  observed that the trading  stock is to be treated as the stock in hand. In the aforementioned case study, RIP is observed to make payment  as the advance amount in  the month of June 2016 for the stock, which are to be  delivered in the August 2016, which is to be included in the next year. As per the section 8- 1 of the ITA Act 1997, it has been clearly stated that the taxpayer can apply for the general deduction for the different  types of the outgoing income which has been incurred as a part of carrying out the necessary  uses activities. It has been further observed the various types of the prepayment made by the company in  form of the investment made in the trading stock which needs to be treated as an advance and  not as expenses. Hence it can be  said that the total amount of the $25000.00 need to be treated as an  advance in  the income tax statement prepared for  the year ended 30th June 2016 (Sadler, 2014).

As per the section 6-5 of the Income Tax Act 197, it has been stated that the assessable, income is considered as that form of income from the resident, which needs to be included as a part of the ordinary income of the taxpayer (Dai, Shackelford & Zhang, 2013). Moreover, the dividend amount needs to be considered as taxable, in the hands if RIP. In the general the dividend are considered as fully franked dividend hence the company is entitled to receive the franking credit. As per the “section 100-25 of the ITA Act 1997” is considered in  providing a general definition of the credit amount  and the payment made of the rental space is not considered as a part of the capital asset. Hence, it needs to be considered the rent paid for making the advance payment needs to be considered done on the basis general expense Act under section 8 of the ITAA Act 1997 (Johnson & Poterba, 2016). In the section, 83-80 of this act has been further provided that the unused long service leave needs to be included as a part of the assessable income of the taxpayer of a company. In the aforementioned case it can be seen that the company is directly involved in providing a three months advance payment for the long service leave and it needs to deduct this from the expenses incurred on June 30 2016, furthermore this should not be treated as an advance.  As due to this, the expense of the company will keep on increasing for the assessment of taxation purpose (Sawyers et al., 2016).

 


As per the ruling of the “section 8(1) of the ITA 1997”, the taxpayer enjoys the greater amount of autonomy of the purpose of the general deductions, which needs to be made in the production of assessable income of the company (Binning & Young, 2015). As per the section, 100-25 the CGT assets are that asset, which needs to be included as a part of land and building. These are further not included in expenses paid in terms of the land and building which is not allowable in the general deduction but needs to be included in the capital expenditure (Haesner  & Schanz, 2013). The various types of the expenses incurred needs to be considered for the purpose of the expenses incurred in the equipments and construction in the insisted parking for the landscaping and needs to be included in the capital expenditure of the company and from the general deduction under the “sections 8-1” of the act (Yagan, 2015).

 

Reference

Berger, L. L. (2016). Bitcoin exchange transactions: income tax implications to consider within the South African environment (Doctoral dissertation).

Binning, C., & Young, M. (2015). TALKING to the TAXMAN ABOUT NATURE CONSERVATION_Proposals for the introduction of tax incentives for the protection of high conservation value native vegetation.

Bray, J. R. (2014). 18. Changes in Inequality in Australia and the Redistributional Impacts of Taxes and Government Benefits. Measuring and promoting wellbeing: how important is, 423.

Brown, K. E. (2016). Related party LRBAs and PCG 2016/5: Recommendations for trustees for smooth sailing. Taxation in Australia,50(11), 670.

Chi, S. S., Pincus, M., & Teoh, S. H. (2013). Mispricing of book-tax differences and the trading behavior of short sellers and insiders. The Accounting Review, 89(2), 511-543.

Dai, Z., Shackelford, D. A., & Zhang, H. H. (2013). Capital gains taxes and stock return volatility. The Journal of the American Taxation Association, 35(2), 1-31.

Dunne, J., Mason, J., & Patto, J. (2014). 2013 cases show high ATO success rate. Taxation in Australia, 48(8), 429.

Dunne, J., Taylor, H., Batten, N., & Krapivensky, N. (2016). 2015 case review: High ATO success rate continues. Taxation in Australia, 50(10), 609.

Haesner, C., & Schanz, D. (2013). Payout Policy Tax Clienteles, Ex‐dividend Day Stock Prices and Trading Behavior in Germany: The Case of the 2001 Tax Reform. Journal of Business Finance & Accounting, 40(3-4), 527-563.

Johnson, W. T., & Poterba, J. M. (2016). The effect of taxes on shareholder inflows around mutual fund distribution dates. Research in Economics, 70(1), 7-19.

Long, B., Campbell, J., & Kelshaw, C. (2016). The justice lens on taxation policy in Australia. St Mark's Review, (235), 94.

Maffini, G. (2013). Corporate tax policy under the Labour government, 1997–2010. Oxford Review of Economic Policy, 29(1), 142-164.

Saad, N., & Udin, N. M. (2016). Public Rulings as Explanatory Materials to the Income Tax Act 1967: Readability Assessment. Advanced Science Letters, 22(5-6), 1448-1451.

Saad, N., & Udin, N. M. (2016). Public Rulings as Explanatory Materials to the Income Tax Act 1967: Readability Assessment. Advanced Science Letters, 22(5-6), 1448-1451.

Sadler, J. E. (2014). Cadastral surveying 3.

Sawyers, R. B., Baumer, D. L., & Chumney, W. M. (2016). Insider Trading and IRC Section 6103 (e)(1)(D)(iii). Journal of Legal Tax Research.

Tran, A. (2015, May). Can taxable income be estimated from financial reports of listed companies in Australia?. In Australian Tax Forum (Vol. 30).

Yagan, D. (2015). Capital tax reform and the real economy: The effects of the 2003 dividend tax cut. The American Economic Review, 105(12), 3531-3563.

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