Best year-end tax strategies for SME owners

Our smart end-of-year tax strategies for SME owners this year are headed by the need to guard against paying unnecessary tax, if possible, triggered by deemed dividends and excess super contributions.

Beginning from 2009-10, deemed dividends will arise for the personal use of private company assets such as luxury boats and ski lodges by shareholders or their associates for free or below-market rates. And concessional contribution caps have been halved from this financial year.

Further, take extra care to ensure that trust distributions are in accordance with trust deeds following a recent High Court decision. No doubt, the tax commissioner will be watching trust distributions for 2009-10 more closely than ever.

Our top strategies have been prepared with the assistance of leading tax advisers and publishers:

1. Check for any potential deemed dividend issues under Division 7A: This should be standard practice for SME owners as the end of the financial year looms nearer.

Under the dreaded Division 7A of the tax act, loans and advances to private company shareholders or their associates are automatically deemed as unfranked dividends unless formal loan agreements are in place, and interest and capital payments meet strict minimum standards.

The aim of these rules is to stop profits of private companies being distributed to shareholders in the guise of tax-free loans.

2. Watch personal use of company assets: Under a bill before Federal Parliament, deemed dividends will arise under Division 7A for the personal use of private company assets by shareholders or their associates for below-market rates.

SME owners should immediately watch this issue because the Government intends it to take effect in 2009-10 for the first time. “Ignorance will be no excuse,” warns Paul Banister, director of taxation services for accountants and business advisers Grant Thornton in Brisbane.

Tax lawyer Robert Richards, principal of Robert Richards & Associates in Sydney, says the Government is closing off another obvious tax loophole by its plans to apply deemed dividends to the personal use of private company assets.

Some companies may consider transferring selected assets to shareholders as in-specie dividends in an attempt to deal with this deemed dividend issue. But Richards warns that the transfer of, say, a luxury yacht to a shareholder as a dividend would be taxable to the shareholder as a franked dividend.

3. Take extreme care with trust distributions: Banister – who wrote the tax chapters in the Australian Financial Planning Handbook 2009-10 published by Thomson Reuters – says one of the big end-of-year issues for 2009-10 arises with trusts where a trust’s taxable income differs from its distributable income.

“This is particularly an issue where a trust has no income to distribute but has a taxable income,” he says.

“A trust’s income incorporates ordinary income and adjustments to ordinary income such as grossed-up income [allowing for franking credits], capital gains and certain deemed income from investments held in foreign structures,” Banister adds.

“A trustee might have nothing to distribute but that may not stop taxable income arising. If so, the trustee will be subject to tax at 46.5% on the taxable income. However, the trustee would not benefit from the standard 50% discount on any capital gains.”

Banister points to the recent High Court judgment in Bamford’s case involving trust distributions. In short, the court ruled that a trust deed determines “the income of the trust” to which beneficiaries are entitled and assessed for tax.

Given the High Court’s judgement, Banister believes that trustees should not expect any latitude in the future regarding trust entitlements and their tax treatment.
Trustees should know what their trust deed states and make sure distributions are made in accordance with its terms,” he says.

Another of the many issues involving trusts which should be taken into account with year-end tax planning is whether a trust has any corporate beneficiaries, and whether loans or cash have been paid to them. There could be deemed dividends under Division 7A. The tax commissioner issued a draft tax ruling on this point in December last year.

4. Claim temporary investment allowance for your business: Small businesses – generally with turnovers of less than $2 million – can claim a 50% bonus tax deduction in their 2009-10 returns for new investments in eligible assets acquired by December 31, 2009 and installed by June 30, 2010.

Businesses with a turnover of $2 million or more can claim a 30% bonus deduction in their 2009-10 returns for new investments in eligible assets acquired by June 30, 2009 and installed by June 30, 2010.

But the bonus deduction for 2009-10 reduces to 10% if the asset is acquired between July 1, 2009 and December 31, 2009, and installed by June 30, 2010.

5. Don’t make excess super contributions: Unquestionably, this is one of the key tax strategies to watch for 2009-10. From this financial year, the annual caps on concessional super contributions are slashed in half to $25,000 for under 50s and to $50,000 for over 50s.

Make excess contributions on both concessional and non-concessional contributions – perhaps after contributing an inheritance or marital property settlement to super – and you will face tax of up to a breathtaking 93%.

Excess contributions are, of course, a danger for both the employed with their salary-sacrificed and SG contributions, and the self-employed with their personally deductible contributions. Typically, it is not too late for the self-employed to decide how to divide their contributions between concessional (deductible) and non-concessional amounts.

On the other hand, make sure you don’t miss out on concessional contributions up to the limit – if you can afford it. This is the most straightforward way to minimise a large amount of tax.

Paul Banister of Grant Thornton has heard that the ATO is yet to issue tens of thousands of assessments for excess contributions in previous tax years.

The need to really watch this issue in 2009-10 would be difficult to overstate. “There is potential grief for many taxpayers,” says Banister.

Superannuation and tax writer Stuart Jones will warn in this year’s tax-planning guide to be published early next month in the Thomson Reuters Weekly Tax Bulletin of the need for members to check that any last-minute contributions will not take them over the concessional contributions cap.

6. Write-off bad debts: Your business may be dealing with clients that are still struggling in the wake of the GFC. Examine your debts and consider writing-off the bad ones before June 30 to gain valuable tax deductions. (Under the accruals method of reporting income, bad debts are deductible.)

Bad debts must be written off in the same income year which a deduction is claimed, Banister emphasises.

7. Don’t overlook basic end-of-year strategies – defer income, accelerate deductions: Further personal tax cuts from July 1 will give businesses operating as sole traders, or through partnerships or trusts in particular an added incentive to defer income until the new financial year and maximise deductions by June 30.

In short, the tax cuts in 2010-11 mean that less tax may be paid on deferred income and accelerated tax deductions are worth more in current financial year.

Ways to defer income may include (depending upon the circumstances of the business) putting-off the issuing of invoices, delaying the sale of assets (if appropriate for non-tax reasons), and not chasing up unpaid bills for a few weeks. Private companies could defer the payment of dividends for a few weeks.

Methods to accelerate deductions include prepaying deductible interest, and doing last minute deductible repairs and maintenance to business/investment properties. Small businesses can claim immediate deductions for certain prepaid business expenses.