Taxation And Finance: Net Capital Gain/Loss, Fringe Benefits, Loss Allocation, And Duke Of Westminster Principle Essay.

Calculation of net capital gain or net capital loss

Questions:

1. 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.

2. 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?

3. 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? 

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

5. 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?

Calculation of taxable value of fringe benefits

The issue is to analyse the given information and to calculate the value of net capital gains or net capital loss for the taxpayer Eric.  

As per section 108 -10 (2) of Income Tax Assessment Act 1997,  jewellery, coins, books, painting, art work, any manuscript, or antique item would be classified as collectable. To be exempt from CGT (Capital Gains Tax), it is essential that the purchasing date of the items must be before September 20, 1985 or the buying price of the item must be less than $500. Further, it is noteworthy that the loss incurred on the sale of collectable would only be compensated with the capital gains that would result from the sale of collectable.  If the taxpayer would not have any capital gains from collectable to offset these losses, then the capital loss would be shifted to next financial year (Gilders et. al., 2016).

As per section 108 -10 (3) of Income Tax Assessment Act 1997, the capital loss incurred from the sale of any personal use asset would not be taken into account while calculating the net capital gains/loss. However, if the personal use asset has acquisition cost of higher than $10,000 then only the derived capital gains would be considered else not (Sadiq et. al., 2016).

As per section 104 - 5 of Income Tax Assessment Act 1997, income derived from the sales of shares would be taken into account for CGT liability on the part of taxpayer. Further, if the shares are not held for more than 1 year, then the taxpayer is not liable for any discount on the calculation of net capital loss/gains (s. 115-25, ITAA 1997) (Deutsch et. al., 2016).

• Eric is the concerned taxpayer who purchased an antique vase, antique chair, and a painting for a cost of $2000, $3000 and $9000 respectively. He has sold an antique vase, antique chair, and a painting for $3000, $1000 and $1000 respectively.

It is apparent that these items are collectable and also having the acquisition cost more than $500. Hence,

Capital loss/ gain

Antique Vase

Antique Chair 

Painting 

Net Capital loss/ gain from collectable =

The negative sign in the value represents that Eric has capital loss of sale of collectables.

• Eric has also purchased a home sound system for a cost of $12000 for her private use. Eric has sold home sound system for $11000.

It is apparent that home sound system is an item of personal use and hence only capital gains would be taken into account.

The negative sign in the value represents that Eric has capital loss of sale of home sound system.

• He has also purchased shares in a listed company for a cost of $5,000. He has also received proceeds of $20,000 from the sale of shares.

The positive sign in the value represents that Eric has capital gains of sale of shares.

Conclusion

It can be said based on the above computation that Eric has capital gains of $15,000 from shares which would be taxed in the current year as per CGT. Further, the capital loss of $9,000 incurred due to collectables would be rolled over to the next year (to be adjusted against collectables capital gains) while the capital loss from personal use asset would not be incorporated in the computation of capital tax liability for Eric.

Allocation of losses between partners

The issue is to find the taxable value of fringe benefits for the FBT year 2016/17.

When employer has provided benefits (non-cash) to employee for personal usage then these benefits are termed as fringe benefits as per FBTAA, 1986. The fringe benefits tax liability would be levied on the part of the employer (Woellner, 2014).  In this regards, when an employer has provided monetary help to employee in terms of giving loan at zero rate of interest or lower rate of interest rate as compared with the statutory interest rate announced by Reserve Bank of Australia for the given assessment year, then there is incidence of loan fringe benefits. Further, it is noteworthy that when the employee has utilized the loan amount for earning income, then the interest amount paid by the employee would be tax deductible on behalf of the employer. Also, the taxable value in loan fringe benefits would be computed by taking the interest saving from loan fringe benefits (Nethercott, Richardson and Devos, 2016).

It is apparent that employer bank has extended loan of $1 million to employee Brian at 1% per annum interest arte that needs to be paid in monthly payments.

Provided interest rate (Annualised)   = 1.0046% p.a.

RBA statutory interest rate for FY2016/17 = 5.65% p.a.

It is apparent that Bank has provided the loan at lower interest rate and hence, FBT liability would be applicable on the employer.

Interest saving = Amount * (Provided interest rate – RBA interest rate)

= 1 * (0.0565 – 0.010046) = $43,960

From loan amount, 40% has been used for making income and hence, loan fringe benefit = (1 – 40%) * $43960 = $26,376

GST is not valid for loan and therefore, the value of gross up factor = 1.9608 (Gilders et. al., 2016)

Grossed up value of loan fringe benefit = loan fringe benefit amount * gross up factor = 26376*1.9608 =$51,718.06

FBT liability = 51,718.06 *0.49 = $ 25,341.85

Further, if the interest amount has been paid by Brian at the end of loan completion period, then the value of taxable value of loan fringe benefit would be increased. This is because the employee would be benefitted since now the same amount has to be paid after a year (CCH, 2013).

Also, the case when the Bank has asked Brian to not pay the interest on loan amount, then in such case Brian would be able to save the whole amount because he does not need to pay any interest. Therefore, the taxable value of loan fringe benefit would be highest and hence the corresponding FBT liability would also increase (Barkoczy, 2015).

Relevance of Duke of Westminster Principle

Conclusion

FBT payable due to loan fringe benefits amounts to $25,341.85. Additionally, this value would increase when the interest needs to be paid at the completion of loan period. Further, the FBT liability becomes highest when bank releases Brian from doing payment of interest on loan.

The issue is to comment on the allocation of losses between Jack and Jill.

Section1, Partnership Act 1891 highlights the key conditions that are to be satisfied for a business arrangement to be classified as partnership. These are highlighted as follows.

• The “carrying on of the business” is essential which should not be equated with continuity of business activity (Playfair Development Corporation Pty Ltd v Ryan (1969) 90 WN (NSW)) (Sadiq et. al., 2016).
• Also, the business must give rise to mutual rights and obligations and the business is carried on behalf of the partners not individually but jointly. Also, in a partnership, if the agreement highlights that a given partner has share in profit and but would not share losses, then the same would not be upheld in court and the concerned partner would have to share losses in the same proportion as profits (Re Ruddock (1879) 5 VLR (IP & M) 51) (Deutsch et. al., 2016).
• Profit motive must be present in the business activities (CCH, 2013).

Partnership exists between the two individuals (Jack and Jill) as joint borrowing of the money is observed which in case of joint venture would have been done individually. Repetition of business activity is not imperative as highlighted in the above section. Also, profit motive is clearly present here. Also, even though partnership agreement puts all losses on Jack but he would share only 10% while Jill would share 90% of the losses.

Conclusion

The capital losses between partners would be allocated in the same proportion as the capital gains or profits. Thus, the capital loss or regular loss will be borne by Jack and Jill in the ratio 10:90.

Issue

The core concern is to outline the relevance of the decision pertaining to IRC v Duke of Westminster [1936] AC 1 case in Australia at present.

Relevant law and Application

The key principle outlined in mentioned case pertains to the taxpayer’s rights to make relevant arrangement for lowering the tax liability. In effect, this case legalised tax avoidance. As a result, in ITAA 1936, no provision on anti-avoidance was present which was enabled only in 1981 due to rampant abuse and the rise of individual income levels (Barkoczy, 2015). Gradually the scope of these provisions has expanded on account of the wide interpretation provided by the court but the burden of proof still lay on the Tax Commissioner (CCH, 2013). However, in 1980, the Choice principle was outlined by the honourable court which restricted the use of tax avoidance by exhibiting only the choices offered by the ATO rather than working creative arrangements exploiting tax loopholes. Further, in 2006, promoter penalty system was introduced which targeted the promoters of schemes for tax avoidance. Thus, in the recent time, a plethora od measures have been taken to prevent abuse of the principle established (Deutsch et. al., 2016).

Conclusion

Then,, while the principle of tax avoidance still remains intact but various provisions have been introduced in Australia so as to check the abuse of the same and impose reasonable restrictions in this regard.

The issue is to offer a legal advice to Bill about the nature of income which is derived from the two given cases.

Case 1: When he has appointed logging company to remove the timber from pine tree with an amount of $50,000 (lump-sum).

Case 2: When he has appointed logging company to remove the timber from pine tree and pay him $1000 for each 100 meter of timber removed.

The provisions of section 26 (f), ITAA 1936 would be taken into account in the process of deciding the nature of income from right to fell timber operation. The amount or say royalty amount derived from right to fell timber would amount to assessable income for the same tax year in which the operation of timber removal has been done. The amount tends to be considered as assessable income of taxpayer regardless of fact that taxpayer has been not involved in the forest operation. The McCauley v The Federal Commissioner of Taxation (1944) 69 CLR 235 case highlights this (Woellner, 2014). There are two main factors that would be considered in this regards. If taxpayer has offered another party to extract the timber for lump-sum amount irrespective of the size of timber removed, then the income is not termed as assessable income of taxpayer. The Stanton v The Federal Commissioner of Taxation (1955) 92 CLR 630 case is the evident of this aspect. Further, if taxpayer has received an amount with respect to the amount of timber removed, then it considered assessable income of taxpayer (Nethercott, Richardson and Devos, 2016).

It can be seen that taxpayer Bill is not running any forest operation and in order to make land suitable for sheep grazing he has decided to remove the pine tree. Therefore, in case where he has decided to appoint logging company to remove timber for $50000 irrespective of total amount of timber removed, the proceeds received would not result in assessable income. However, the case where, the income is received per 100 meter of timber removed, the proceeds would amount to assessable income of Bill as per section 26 (f).

Conclusion

The conclusion can be drawn that when Bill has received lump-sum amount ($50,000) then the amount would not classified as assessable income. However, when he is receiving the income ($1000) per 100 meter of timber removed, then this would contribute to the assessable income of Bill as per section 26 (f).

References

Barkoczy, S. (2015), Foundation of Taxation Law 2015, 7^thed., North Ryde: CCH Publications

CCH (2013), Australian Master Tax Guide 2013, 51^st ed., Sydney: Wolters Kluwer

Deutsch, R., Freizer, M., Fullerton, I., Hanley, P., and Snape, T. (2016), Australian tax handbook 8th ed., Pymont: Thomson Reuters,

Gilders, F., Taylor, J., Walpole, M., Burton, M. and Ciro, T. (2016), Understanding taxation law 2016, 9^th ed., Sydney: LexisNexis/Butterworths.

Nethercott, L., Richardson, G. and Devos, K. (2016), Australian Taxation Study Manual 2016, 4^th ed., Sydney: Oxford University Press

Sadiq, K, Coleman, C, Hanegbi, R, Jogarajan, S, Krever, R, Obst, W, and Ting, A (2016) , Principles of Taxation Law 2016, 8^th ed., Pymont:Thomson Reuters

Woellner, R (2014), Australian taxation law 2014, 7^th ed., North Ryde: CCH Australia