In recognition that small business is the engine room of the Australian economy, small businesses will benefit from a suite of tax concessions announced in the 2015 Federal Budget.
What is a small business?
The tax law currently contains detailed rules about what constitutes a ‘small business entity’.
Very broadly, it is a taxpayer who carries on a business and has an annual (GST exclusive) turnover of less than $2 million.
This turnover test is based on the aggregated turnover of the taxpayer and certain related entities. Turnover is based on ordinary income that has been derived in the ordinary course of carrying on a business; so it will not include amounts that are treated as taxable by tax legislation but would otherwise not be ordinary income eg capital gains, deemed income.
In practical terms, the ‘small business entity’ definition can produce counter-intuitive outcomes. For example, a very capital or real-estate intensive business, with high value assets (eg farming), can qualify as a ‘small business entity’ if the aggregated turnover is below the threshold. On the other hand, a high-turnover, low-margin business might miss out (eg many retail businesses). Each situation must be assessed case-by-case.
The Board of Taxation has recommended that the $2 million limit should be reviewed; with a $3 million or even a $5 million threshold being a possible replacement. The Government has responded that it will consider this as part of the Tax White Paper.
While it is not clear from the Budget that the new concessions will adopt the ‘small business entity’ concept, the concept does seem to be consistent with the Budget announcements.
CGT Rollover for restructures
A welcome Budget announcement is the proposed rollover for small businesses restructuring into different legal forms.
This proposed change emanates from the Board of Taxation’s ‘Review into Tax Impediments Facing Small Business’; a fast-track review commissioned by the Minister for Small Business, the Hon Bruce Billson MP, in 2014.
Hall & Wilcox tax partner, Michael Parker, was a member of the Board’s Expert Panel which assisted the Board with this review.
This concession recognises that in the initial stages of a business’ life money can be tight and the business owners are focusing their efforts on the day to day operations rather than the structure of the business. Business operators are often required to invest every cent (as well as their focus) in running the business. They often do not have the resources to spend on obtaining expert advice on how their business should be structured or the costs of establishing a business structure and its ongoing running costs.ta
In recognition of this, the Board suggested that a rollover should be available to permit small businesses to restructure without incurring the cost of CGT.
The Board’s suggestion was that a new form of legal structure could be adopted; even if this results in a change of beneficial ownership. For instance, ownership of a business could be restructured from, say an individual or company to a discretionary trust.
As always with Budget announcements, the details remain to be seen. However, we expect that rules will be needed to prevent the rollover being inappropriately accessed. For instance, rules to ensure sufficient connection exists between the original business owners and the new structure seem likely, as do rules about utilisation of losses incurred prior to the business restructuring.
In addition, it is possible there will be time limits on when a restructure can occur. The Board had suggested a time limit of, say, three years may be a condition.
Finally, it must be noted that while the proposed changes, if enacted, will provide CGT relief, there can be other tax costs associated with restructuring a business. These costs can include duty in various states and territories, GST, depreciation claw backs and trading stock deemed gains. Such imposts must be considered when advising on whether to implement a restructure.
Small businesses will be entitled to an immediate deduction (as opposed to claiming depreciation over the life of an asset) for asset purchases costing less than $20,000.
This measure will only apply for assets acquired and installed ready for use between 12 May 2015 and 30 June 2017.
Again, we will need to await the detail, but presumably there will be rules dealing with matters such as whether the asset must be new or can be secondhand and when an asset is acquired and installed ready for use.
We hope these rules will contain some flexibility for unforseen circumstances. For instance, we have had to deal with tragic situations where an asset had been purchased well before a sunset date but could not be installed ready for use by the sunset date due to natural disaster. Unfortunately, the ATO was not empowered by the relevant legilsation to extend the period for the asset to be installed. A discretion bestowed on the Commissioner by the legilsation could have made all the difference.
Presumably disputes will arise as to what constitutes an asset for the purposes of measuring the less than $20,000 limit. For instance, is an item to be properly viewed as an asset in its own right or is it part of a larger asset?
The other thing to note is that while a bigger upfront tax deduction is a good thing, it will only make a cashflow difference when a business is in a tax payable position. For business in the start-up or ‘cash burn’ phase, this may be some time away.
An immediate deduction for professional expenses
In a similar vein, the Budget contains an announement that small businesses that do seek professional advice in establishing the business will be entitled to claim an immediate deduction for professional expenses such as for legal and accounting advice.
Another welcome announcement is that small businesses structured as companies will see a 1.5% reduction in the company tax rate from 30% to 28.5%.
The Budget announcement suggests that such companies will still be able to frank their dividends to a maximum of 30%.
This may result in companies having a shortage of franking credits. That is companies could wind up with retained earnings in excess of what they can distribute to shareholders as fully franked dividends.
Non-company small businesses will attract a 5% tax discount. This means that individuals who receive business income, other than via a company, will be entitled to a discount of 5% of the income tax payable on that business income. There will be an annual cap of $1,000 per individual.
For instance, presumably this means that an individual beneficiary who receives distributions from a discretionary trust, which carries on a small business, will be entitled to a 5% reduction of the tax payable on their share of the trust’s business income.