LAWS19033 Taxation Law and Practice

1. Where is the primary source of the Commonwealth Parliament’s taxation found
2. What are the primary sources of tax law
3. Explain what topic Taxation Ruling TR 98/17discusses
4. How is the Medicare levy calculated
5. Which Division of the Income Tax Assessment Act 1997 denies a company that has been fined under Commonwealth consumer legislation for engaging in misleading and deceptive conduct from deducting the costs of the fine
6. Explain how Section 25-45 ITAA97 relates to specific deductions
7. Explain the significance of  the High Court case, W Thomas & Co Pty Ltd v FC of T (1965) 115 CLR 58, in the topic of deductions
8. Explain the three ways that a taxpayer can choose to value each item of stock on hand at the end of the income year.
9. What is the applicable tax rate for a taxpayer who has $45,000 taxable income in 2016/17
10. Explain the PAYG tax collection system.

During the financial year Ram paid his tax agent $1,000 to complete the previous year’s income tax return. He also paid his solicitor $2,000 to draft an objection to an ATO assessment that he received two years ago. Ram also paid $50,000 in income tax. 

Explain with supported reasons which of the three costs are deductible.

To support the analysis in your answers refer where appropriate to the ITAA 1936, ITAA 1997, Tax Rulings and/or case law. 

On November 11 Tina a twenty year old international student arrives in Brisbane to study at university. She works part time in a local supermarket to help with living expenses and study fees. Her earnings to 30 June are $12,000. Regrettably she does not do well in the assignments and exams and fails all subjects. With deep regret she returns to her home country.

Did the student become an Australian resident To support the analysis in your answers refer where appropriate to the ITAA 1936, ITAA 1997, Tax Rulings and/or case law.

Jimmy is an Australian single full-time university student who works part time in a restaurant. During the year he has receipts as follows: 

• Income from working in the restaurant $27,000;
• Tips from customers $750 cash;
• At Christmas time, a regular and satisfied customer gives Jimmy an expensive bottle of Scotch alcohol, worth $250. Jimmy does not drink and gives the bottle to his friend, Eva;
• Also at Christmas time, Jimmy’s parents give him as a gift $15,000;and
• Each month his employer at the restaurant takes all staff including Jimmy out for dinner and the total expense of the food that Jimmy eats on these nights is $645.

What is Jimmy’s assessable income for the year To support the analysis in your answers refer where appropriate to the ITAA 1936, ITAA 1997, Tax Rulings and/or case law. 

Josie is a single Australian mortgage broker who obtains loans for her clients from various banks. She earns commission from the banks when she introduces a successful loan application to any of the banks.

Usually she works from home and at times she also visits her clients at their homes to arrange the documents for the applications. At times she visits the branches of the banks to drop in hard copies of the paperwork.  

Her home office is where she does most of the work with these applications, stores client information and keeps hard copies of the various client applications.

Her home office occupies 15% of the total space in her home. Her outgoings in relation to her home for the current financial year are as follows:

• Council rates $4,900
• Interest on her home loan $18,900
• Electricity and heating costs $6,800
• Cleaning lady $3,400
• Home telephone (60% of which is for business use ) $2,700
• Mobile telephone bill (90% of which is for business use) $7,200

Calculate how much of the above outgoings are a deductible expense for Josie To support the analysis in your answers refer where appropriate to the ITAA 1936, ITAA 1997, Tax Rulings and/or case law.

• The primary source of Commonwealth Parliament’s taxation is found in Constitution which provides the power to the Parliament to legislate tax laws. In the absence of this source, the taxation powers of the Commonwealth Parliament would not exist (Barkoczy, 2016).
• The primary source for tax laws lies in the legislation enacted by the same along with the court decisions in various case laws which tend to uphold certain principles. These principles tend to form the basis of the statutes implemented by the Parliament and tend to provide guidance with regards to interpreting the existing regulation on a particular matter (Gilders et. al., 2016).
• TR98/17 discusses the tax residency of individual taxpayers and highlights the various tests that may be applied in order to determine the tax residency of a given individual on an annual basis based upon the underlying conditions. The various tests are domicile test, reside test, 183 day test and superannuation test (Sadiq et. al., 2016).
• Medicare levy is applied at the rate of 2% of the taxable income. However, Medicare levy is not applicable for foreign residents and also for those who are not entitled to benefits arising from Medicare. Also, for low income earners, there are exemptions with regards to application of Medicare levy (Deutsch et. al., 2016).
• The deduction of fines or penalties for violation of any Australian law is not permissible as per s. 26-5 of ITAA 1997 (CCH, 2013).
• In accordance with s. 25-45 ITAA 1997, deduction can be claimed for any losses that arise due to theft, larceny, misappropriation, embezzlement or defalcation which has been incurred due to the agent or employee and otherwise would have been recognised at assessable income in the current year or has been recognised as assessable income in the previous years (Woellner, 2014).
• The given case highlights the situation when the deduction for repairs can be claimed. According to the discussion in the case, the expenses incurred would be termed as repair when the efficiency of a thing is restored. Further producing the exact replica of the material or form is not significant for claiming deduction (Barkoczy, 2016).
• The three applicable methods are highlighted below (Gilders et. al., 2016).
• The trading stock can be valued at the cost price.
• The trading stock can be valued at the market selling value.
• The trading stock can be valued at the replacement cost based on the closing day prices.
• Total tax payable for a person with taxable income of $ 45000 = 3572 + 0.325*(45000-37000) = $ 6,172

Thus, the marginal tax rate applicable is 32.5%.

However, the tax rate applicable (excluding Medicare levy) = (6172/45000)*100 = 13.71%

• PAYG or Pay as You Go collection system ensures that the various tax obligations concerning income tax, Medicare payments, HELP repayments are collected in instalments from the salary of the individuals so as to avoid a one-time tax burden on the taxpayer (Nethercott, Richardson & Devos, 2016).

In accordance with s. 25(5) ITAA 1997, an entity can deduct expenditure which is related to managing the tax affairs.  Additionally, as per s.960-100, one of the key entities is an individual taxpayer. Also, as highlighted in the discussion of the Falcetta v FC of T 2003 ATC 4962; [2003] FCA 1125 case, it is also established that the deduction in this regard could be claimed only in the year in which the expenditure on tax affair management is incurred (Sadiq et. al., 2016), Therefore based on the given facts and the above applicable law, it is apparent that the fees that Ram has paid to the tax agent for the previous year filing would be deductible for tax purposes in the current year.

The deduction highlighted above in relation of s. 25(5) also applies to the expenses incurred in filing the tax objection in relation to the previous years. Further, this deduction would be applicable in the same year in which the expense is incurred. As a result, the expense incurred by Ram for drafting the objection through the use of a solicitor would be deductible for tax purposes but in the current year when the expense is actually incurred. Similarly, s.25(5) deductions do not apply in relation to any penalty or income tax which is paid on account of previous tax returns (Deutsch et. al., 2016). Hence, the income tax of $ 50,000 paid by Ram would not be tax deductible in the current year or the previous year.

The tax residency determination is covered under s. 6(1) ITAA 1936 which lists down the various conditions that need to be satisfied. These tests have also been highlighted in TR 98/17 which deals with tax residency. While in total there are four tests, but only two tests are applicable for foreign residents. These two tests are listed as follows (CCH, 2013).

• Resides Test
• 183 day test

Resides Test – The Australian tax law does not highlight the definition of the word “resides”. As a result, the relevant factors for this test have to be obtained considering the relevant case laws along with the tax rulings. Based on these, it has been found that the critical factors are as outlined below (Woellner, 2014).

• The significance of the purpose with which the taxpayer has visited Australia – In this regards, education and employment (more than six months) are considered to be significant while visiting would be an insignificant reason.
• The extent of personal and professional relationship with Australia when compared to the country of origin
• The social arrangements that the taxpayer has and the kind of life that the taxpayer lives during the stay in Australia as compared to the country of origin

183 Day Test – In order to satisfy this test, the following two conditions need to be fulfilled (CCH, 2013).

• The concerned taxpayer should have resided for a period of 183 days in Australia in the year under consideration.
• The concerned taxpayer must have intent to settle in Australia on a permanent basis.

Failure to meet any condition listed above would lead to failure in passing the test.

It is apparent that Tina arrives in Brisbane on November 11 and hence till June 30 of the next year, more than 183 days would have passed and hence this condition is satisfied. However, there is no intention on Tina’s part to settle in Australia and hence the 183 day test is not passed. However, considering the significance of the reason to visit Australia which is to study, she would have passed the resides test for tax residency and hence, for the year ending on June 30, she would be considered as an Australian tax resident.

The objective is to determine the assessable income in accordance with the relevant tax law.

• The income that Jimmy has earned from working in the restaurant amounts to $ 27,000 and this would be considered as assessable income in line with s. 6(5) of ITAA 1997. In accordance with s. 6(5), the income which is derived from ordinary concepts is known as ordinary income and contributes to assessable income. One of the key components of ordinary income is the earning derived from employment (whether full time or part time) in accordance with the TR 2006/3 (Barkoczy, 2016).
• With regards to the tax treatment of tips received from working in restaurant, the relevant paragraph is 26(e) as per which assessable income would tend to include any allowances which are paid on account of services rendered and may arise directly or directly. As a result, the tips that are received by Jimmy would be considered as assessable income in line with TR 95/11. It is noteworthy that tips are related to normal operations of serving clients and hence could be said to arise on account of the employment only (CCH, 2013).
• In accordance with section 21A ITAA 1936, any non-cash benefit that tends to arise from business would be termed as assessable income.  Also, it is noteworthy that Division 30 of ITAA 1997 tends to highlight the tax treatment of gift without exactly defining the same. As a result, the commentary in TR 2005/13 becomes pivotal which lists down the various conditions which a gift must satisfy. These conditions are enumerated below (Gilders et. al., 2016).
• There should be change of ownership involved with transfer in favour of the transferee.
• The transfer should arise on voluntary basis and the transferor should not transfer under any obligation, compulsion or pressure directly or indirectly from the transferee.
• The transferor should not have any expectation to realise any material benefit from the transferee on account of the gift being transferred.
• Also, the transfer should arise on account of benefaction and hence should extend some material benefit to the transferee.

In the given case, it is noteworthy that the payment received by Jimmy cannot be termed as a payment under s. 21A. This is because it is not a benefit derived from business but arises on account of Christmas festival. Thus, it needs to be analysed in wake of the above properties of gift whether the scotch bottle may be termed as a gift or not. The customer gives Jimmy the bottle and hence there is ownership transfer from the customer to Jimmy. Further, Jimmy has not asked for the bottle and nor has the bottle been given as part of any past, present or future compensation due to which it may be concluded that the transfer is voluntary and is not prompted by any desire of any future benefit on the behalf of the customer. Besides, there is benefaction in the transfer and hence all the conditions of a gift are fulfilled. This implies that the scotch bottle would be a gift and hence exempted from tax (Woellner, 2014).

• It is known that at Christmas, a amount of $ 15,000 was given as gift was parents. It is apparent that it is reasonable to assume that all the properties of gift which are highlighted above are also satisfied in the given case and hence it would be appropriate to treat this payment of $ 15,000 as a gift which is an exempt income. As a result, there would not be any increase in assessable income of Jimmy due to receiving $ 15,000 from parents (Sadiq et. al., 2016),
• In accordance with Section 1 FBTAA 1986 (Fringe Benefit Tax Assessment Act, 1986), any non-cash personal benefit which is extended by the employer to the employee would be termed as fringe benefit and tax for the same would be levied on the employer in the form of Fringe Benefit Tax or FBT. One of the common types of fringe benefits is meal fringe benefit which in accordance with Division 4A arises when the employer takes the employee with or without associates for dinner outside the business premises.  In such cases, the employer has to bear the tax on the meal fringe benefit extended to the employees (Deutsch et. al., 2016).  It is apparent that in the given case the employer is extending meal fringe benefit as there is no compulsion on the employer to take the employees including Jimmy out for dinner. However, it is a non-cash benefit that employer is extending and hence there would not be any contribution to assessable income for Jimmy on account of the expense incurred on the same.

Usually, the house expenses are categorised as private expenses on which no deduction can be claimed. However, when the house is used for conducting business, then it can be termed as a place of business. Under such circumstances, a portion of the selected expenses related to the house would be deemed as deductible. The following factors need to be taken into consideration to determine whether a particular area may be deemed as a “place of business” in accordance with tax ruling TR 93/30 (Barkoczy, 2016).

• Clear identification of the concerned area as a place of business
• Ill-suitability of the concerned area to serve domestic or private purposes
• Exclusive use of the concerned place for conducting business
• Regular visit being paid by clients to the concerned area

If a concerned area has the characteristics of a “place of business”, then it loses the domestic character and starts to be recognised as a business premises as highlighted in Swinford v FC of T (1984) 15 ATR 1154 (CCH, 2013).

However an alternative arrangement is the private study where out of convenience a portion of the house is used for work purpose which otherwise would have been carried out in a business office.  In this particular arrangement, the range of deductions available are considerably lesser as the private or domestic character is not lost as exhibited in the verdict of the Handley v FC of T (1981) 11 ATR 644 case (Gilders et. al., 2016). The following two broad categories of expenses are associated with a home office or private study (s.8-1 ITAA 1997) (Woellner, 2014).

• Occupancy Expenses (For instance, rent, interest on mortgage, council tax, insurance premium for house, land taxes)
• Running Expenses (Related to usage of facilities such as electricity, costs of cleaning , leasing, lighting, repairs in furniture and furnishings present in the office)

It is imperative that the above expenses must be directly related to the home office.

Based on the given information about Josie who is a mortgage broker and operates from home, the following critical facts are worth noticing.

• She works from home and she pays a visit to the customers’ home and the bank branch. It does not seem that clients or bank people pay a frequent visit to her home office.
• The home office occupies 15% of the total area of the house.
• Also, the home office is used for working the applications, storing the information about clients coupled with client applications hard copies.

It is apparent from the above facts that Josie seems to have a have a home office rather than a place of business. This is because based on the facts it does not seem that there is any place which is exclusively meant for business purposes only coupled with lack of visit of clients to Rosie’s place. As a result, as per s. 8-1, occupancy and running expenses to the extent of the home office may be considered as deductible for the purposes of income tax.

• Council rates (deductible to the extent of area occupied) =(15/100)*4900 = $ 735
• Mortgage interest (deductible to the extent of area occupied) = (15/100)*18900 = $2,835
• Electricity and heating costs (deductible to the extent of area occupied in the absence of data on exact usage of office) = (15/100)*6800 = $ 1,020
• Cleaning expenses (deductible to the extent of area occupied) = (15/100)*3400 = $510
• Home Telephone (deductible to the extent used for business) = (60/100)*2700 = $1,620
• Mobile Phone (deductible to the extent used for business) = (90/100)*7200 = $6,480

Based on the above, total annual deductible expenses = $13,200

Hence, it may be concluded on the basis of above computations that Rosie can claim a annual business expense deduction to the extent of $ 13,200 on account of home expenses.

References

Barkoczy, S. (2016), Foundation of Taxation Law 2016 (8^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., & Snape, T. (2016), Australian tax handbook (8th ed.), Pymont: Thomson Reuters,

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

Nethercott, L., Richardson, G. & 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, & 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.