In multiple proceedings handed down in August, the Federal Court held that nearly all deductions amounting to several million dollars claimed by three entities controlled by one individual should not be allowed.

This is a case referred to as Melbourne Corporation of Australia Pty Ltd v Commissioner of Taxation. It also involved a business called the Anglo American Charitable and Cultural Trust (the AA Trust).

What’s the story?

The case came about because the Tax Commissioner issued amended assessments of income tax and penalty assessments in relation to the above-mentioned companies. These were in relation to tax deduction claims for management fees and interest said to be incurred in respect to purported loans.

The question arose as to whether the alleged management fees were actually incurred.

In addition, there were queries around whether purported loans were actually made, whether the proceeds of the loans were used in producing assessable income or whether the interest claimed was in relation to the alleged loans.

The case concluded with the court upholding that the value of “management fees” and interest were “no more than ex post facto constructions designed to be fiscally convenient for tax purposes”.

Basically, the claims were not valid.

In one of the cases, as shared by Senior Content Analyst Heidi Macguire from Wolters Kluwer Tax and Accounting, “The lead appeal in this decision was in relation to Melbourne Corp which, over the 2001 to 2014 income years, claimed deductions in respect of management and consulting fees as well as interest expenses in relation to arrangements with various Australian entities.

The Commissioner disallowed the deductions and imposed penalties at the rate of 75% for intentional disregard, increased by 20% for the years after 2001.

The assessments resulted in Melbourne Corp’s taxable income increasing from $168,018 to $2,431,071, with penalties of $589,225 and shortfall interest charge of $175,746 imposed.”

You can read further details and evidence from the trial here.

A caution for all business owners

There are many ways to minimise tax as a business or individual but if your accountant goes beyond what is legal, there will always be the risk of a response and investigation from the ATO, and subsequent legal action.

In terms of writing off management fees or loan expenses, it is important to have documented evidence of everything. At the very least, the ATO needs to see the flow of money between bank accounts as a way of proving tax-related claims.

The term ‘wilful blindness’ was mentioned many times during the Melbourne Corporation cast. In his findings, Justice Logan stated that the taxpayer’s directors conduct (and his evidence) was not dishonest, but he was mistaken to the point of wilful blindness to the obvious in fixing and then causing the amounts to be claimed.

Justice Logan stated that the accountant in question, “Appears additionally to have convinced himself, seemingly based on a mistaken understanding of the proposition, that it is not for the Commissioner to dictate to a taxpayer how to run a taxpayer’s business or one controlled by a taxpayer.”

For penalty purposes, this behaviour was classed as ‘reckless’ rather than ‘intentional disregard’. However, as Heidi McClure wrote in the conclusion of her lengthy article about the trial:

“An act of will, no matter how genuine, does not overcome lack of documentation, contradictory evidence, unreliable ledger entries or transactions devoid of any plausible explanation.

Second, making ex post facto (after the fact) constructs or “closing adjustments” after the end of an income in order to achieve a fiscally convenient outcome does not serve to minimise tax but rather leads to a finding of sham.”

Long story short… tax returns require an honest approach based on documentation and evidence. If you’re a business owner, this means keeping your receipts and records of all interest, loan and other transactions. If you make a claim that the ATO notices as outside of standard benchmarks, you must be able to prove it is genuine.

Legal Affairs Lounge provides legal advice for individuals and business owners on the Legal Affairs .

Disclaimer: The information contained in this news post is general in nature and is intended to provide a general summary only and should not be relied on as a substitute for legal advice. Whilst the information is considered to be true and correct at the date of publication, changes in circumstances after the time of publication may impact upon the accuracy of the information.

One question we are often asked about at LAL is how tax applies on the sale of a business. There isn’t a black and white answer, but this article will give you an understanding of how it all works.

Paying tax on a business sale

The sale of a business is counted by the Australian Tax Office as part of the business’s taxable income. Think of it as your parting ‘gift’ to the tax office!

The tax rate you pay on the sale of your business depends on the form it takes, with the two most commonly sold structures in Australia being sole traders/trusts and companies.

• Business sale tax for sole traders and trusts

For sole traders and trusts that distribute to individuals, the amount of tax you pay depends on the value of the business at sale. The tax rate is separated into two brackets:

• $90,001 – $180,000: a rate of $20,797, plus 37% on every dollar over $90,000
• $180,001 and above: a rate of $54,087, plus 45% on every dollar over $180,000

Both brackets also incur the Medicare levy fee of 2%.

• Business sale tax for companies

Tax on companies is usually between 25% and 30%, depending on base entity rules.

Capital Gains Tax

Capital Gains Tax (CGT) applies to the sale of all businesses in Australia, regardless of structure because a sale is regarded as a capital gain.

The ATO considers capital gains to be any profit that your business brings in by selling assets. CGT is the tax the ATO charges on that profit.

Therefore, selling a business for more than it was bought for is a capital gain and will be taxed.

Capital gains tax will vary depending on:

• The initial cost of establishing the business
• The sale price
• The businesses tax structure
• Possible tax concessions
• Total income earned over 12 months

Minimising your tax bill

As inevitable as taxes are, there are always ways to make sure you don’t overpay.

Small businesses have the most options available to apply for tax concessions. The ATO classes small businesses in Australia as:

• Having an annual turnover of less than $2 million
• Having net assets worth less than $6 million

If you are a small business, there are a number of concessions you may be able to apply for, including:

• 50 per cent capital gains tax reduction: If you have owned your small business for more than 12 months, you may be eligible for this deduction.
• 50 per cent active asset capital gains tax reduction: An active asset is an asset that has been in use for more than half the time that a business owner has owned them. A business clearly falls into that category, so falls into the eligibility for the 50 per cent active asset capital gains tax reduction.
• 15-year capital gains tax exemption: If you are over 55 and have owned the business for over 15 years, you may be eligible for a complete exemption if you are selling to retire.
• Retirement exemption: You can ignore up to $500,000 of the capital gains tax incurred if you are retiring. If you are under 55, you must place the capital gain amount into an allocated superannuation fund.
• Small business roll-over capital gains tax exemption: It may be possible to roll your capital gains tax over to a new asset. You even have two years to find the replacement asset.

Your lawyer and accountant can help you understand which of these you may be eligible for.

Asset sales or share sales

When you sell your business, you have the option of doing an asset or a shares sale:

• An asset sale means the sale of the entire business, including all physical assets.
• A shares sale is when you sell off enough company shares to move ownership to another business entity.

The best solution

You will always pay tax on a business sale, so the best way to make sure you don’t pay incorrectly is to seek professional help.

An experienced lawyer and accountant will help you understand all the options above so you can structure your business correctly to sell it. This may require several months or even years of planning but it will be worth it.

Don’t forget, there are many other steps involved with selling a business beyond being aware of tax. Your accountant and lawyer can help you ensure it is in great shape so you can sell quickly, easily and for a great price.

Need help to sell your business and maximise your profits? Contact LAL Law today.

Disclaimer: The information contained in this news post is general in nature and is intended to provide a general summary only and should not be relied on as a substitute for legal advice. Whilst the information is considered to be true and correct at the date of publication, changes in circumstances after the time of publication may impact upon the accuracy of the information.