Taxation Calculation Income Tax Assessment Act

Question: Discuss about the Taxation Calculation for Income Tax Assessment Act. Answer: 1. The income Tax assessment Act 1997 provides that income tax is payable on assessable income. The assessable income is further classified into two categories ordinary income and statutory income. The section 6-5(1) of the ITAA 1997, provides that assessable income includes income from ordinary concepts. The income from ordinary concepts is not defined under the act but it is considered that amount which an ordinary people would consider as income (Woellner et al. 2016). There are three components of ordinary income: Income from personal exertion for example salary and wages etc; Income from carrying business for example farming, retail selling etc; Income from property for example interest, rent, dividends etc; The income from personal exertion is also known as personal service income. These incomes are mainly derived from the personal skill and effort of an individual. An income is classified as personal service income if more than 50% of the amount received in the contract is due to personal skill, labor and expertise. The income received by the financial professionals, medical practitioners, construct workers etc are example of personal service income. There are certain incomes which are not included in the personal service income they are selling or supplying goods, providing the right to use property, using an asset which is used for generating income etc. Therefore, the important part is to determine whether an income is a personal service income. In order to determine whether an income is a personal service income four tests must be applied. These four tests applied are results test, unrelated client test, the employment test and the business premises tests. The result test The result test is satisfied if an individual complies the following conditions for at least 75% of the personal service income: The payment is received after the completion of the work under the contract or arrangements; The individual provides the equipment or tools to execute the work; The individual is liable to rectify the defects or is required to pay the damages; The result test considers if the payment is received after achieving the specific outcome or result. If an individual does not satisfy the result test then it should be considered whether the 80% of the income is received from one source. The unrelated client In order to satisfy this test an individual is required to fulfill the following conditions: The income is received from two unrelated clients; The services are provided to the clients on an offer or advertisement made to the public at large; The employment Test In order to satisfy this test an individual is required to have the following: The 20% of the principle work is performed by the employee, partners or other contractors; If the above condition is not satisfied then the individual must have an apprentice for last half of the income year. The last test is the business premises test that is required for determining personal business income and not personal service income. In the given case, Hilary is a mountain climber and she has entered into an agreement with daily terror to write her story. The story was published and she received the payment from daily terror newspaper. She also sold the manuscript and several photographs to Mitchell library for $5000 and $2000 respectively. It is required to be ascertained whether three payment received by Hillary are income from personal exertion. For this purpose, the tests are applied to determine the nature of the income. The result test required that there should be a contract between the parties and the payment is to be received after the contract is completed. In this case, Hilary had an arrangement with daily terror to write her story without any assistance from ghostwriters. The result tests are satisfied therefore it can be concluded that the income received from Daily Terror is income from personal exertion. The other two incomes received from selling of photographs and manuscripts does not satisfy any tests therefore this two incomes are not income from personal exertion (Smith 2015). If she wrote the story for her personal satisfaction and then decides to sell it later then as there are no agreement between beforehand so the income will not be income from personal exertion. It is because the result test makes it mandatory there should be an agreement but there is no agreement in this case so the test is failed. The unrelated client test is also failed, as there is no advertisement is made in the public. On the basis of the analysis it can be concluded that if the store is written for her satisfactions and is sold later then it is not an income from personal exertion. 2. In Australia, Australian Taxation Office generally taxes an individual on income received, interest received, dividend received, capital gains and may others. The general rule is that if the gift is not covered within the taxable income then they are not taxed. There is no gift tax that is to be paid in Australia provided the gifts are made within the allowable amount. It is provided that maximum allowable amount is $30000.00 for five financial year and the amount should not exceed $10000.00 in any one year (Duff 2016). Various case studies related to gifts provide example of gifts that are not taxable: There is no gift tax on gift to son; There is no gift tax on gifts to sisters; There is no gift tax for bringing in large sum of money from parents for purchasing property; There is no gift tax for if the parent decides to sell the property and buy each son house; There is no gift for giving back money as gift to children All this examples of gifts are based on the case study of Hayes V FCT (1956), Scott V FCT (1974) and Smith V FCT (1988). Therefore, from the above case studies it can be seen that providing a large sum of money to son is not liable to tax if the rules laid down by the government are followed. The rules states that loan should be properly documented. The parents are required to create deed of trust documents and should record that with county in which the residence is located. The law also provides that the mortgage and promissory note should be executed between the parent and the child. This will provide as evidence that the funds provided are loan and not gift. The loan document should include the details of terms, interest rate and transferability of the property. It is to be noted that if the loans are forgiven by the parent and are not perused by them for collection then it will amount to gift. The children are then required to declare the loan as income and pay tax on it. The maximum amount that a parent can gift a child without incurring tax liability is $10000.00. In the given case parent has provided short-term loan to son for $40000.00 on the agreement that the loan will be repaid by the son at the end of five years amounting to $50000.00. There was no formal agreement between the parent and son about the loan further there are no securities for the sum lent. The son has repaid the loan and also an additional amount equal to 5% p.a on the amount borrowed. Based on the existing rules as loan document was not executed between the parents and child then this loan will amount to gift and it will be subjected to tax in excess of permissible amount. Therefore, it should be noted that loan provided to son in excess of the permissible limit would increase the assessable income of the parents. 3.(a) The Capital gain or capital loss of the individual can be calculated under two methods. These methods are indexation method and discount method among the two, which is more suitable for the taxpayer, is chosen. In the given case capital gains under indexation method are $ 561,458.33 and the capital gain under discounting method are $325,000.00. So an individual should opt for discount method for reducing tax. Statement showing computation of capital Gain Particulars Using Indexation method Using Discount method Sale Proceeds $ 800,000.00 $ 800,000.00 Less: Cost Base $ 238,541.67 $ 150,000.00 Capital Gain $ 561,458.33 $ 650,000.00 Discount(50%) $ - $ 325,000.00 Net Capital Gain $ 561,458.33 $ 325,000.00 Calculation of Indexation factor CPI for September 1990 68.7 CPI for September 1986 43.2 Indexation factor 1.590278 (b) Statement showing computation of capital Gain Particulars Using Indexation method Using Discount method Sale Proceeds $ 200,000.00 $ 200,000.00 Less: Cost Base $ 238,514.67 $ 150,000.00 Capital Gain $ (38,514.67) $ 50,000.00 Discount(50%) $ - $ 25,000.00 Net Capital Gain/(loss) $ (38,514.67) $ 25,000.00 If the sale proceed is $200,000.00 then individual should opt for indexation method as it will help to save tax. (c ) Statement showing computation of capital Gain Particulars Using Indexation method Using Discount method Sale Proceeds $ 800,000.00 $ 800,000.00 Less: Cost Base $ 238,541.67 $ 150,000.00 Capital Gain $ 561,458.33 $ 650,000.00 In discount method, a discount of 50% is applicable in case of individual but no such discount is available for company. Therefore, in this case the capital gain is less under indexation method than the discount method. Reference Duff, D.G., 2016. Alternatives to the Gift and Estate Tax.Boston College Law Review,57. Smith, J., 2015. Australian state income taxation: a historical perspective.Available at SSRN 2704627. Woellner, R., Barkoczy, S., Murphy, S., Evans, C. and Pinto, D., 2016.Australian Taxation Law 2016. Oxford University Press.