Deductibility Of Expenditures For Ruby Engineering Pty Ltd For The Income Year

General deductions under Section 8.1 of ITAA 1997

Number of expenditures have been incurred by Ruby Engineering Pty Ltd during the year. The issue is to determine the deductibility of these expenditures incurred by the company in calculating the taxable income for the income year of the company. Each specific outgoing shall be discussed in accordance with the applicable provisions of Income Tax Assessment Act, 1997 and guidelines provided by the Australian Taxation Office (ATO).

Section 8.1 of Income Tax Assessment Act, 1997 (ITA 1997) contains provisions in relation to general deductions. Section 8.1 provides that the tax payer, whether individual or an entity carrying on business, can deduct from the assessable income any expenditures and outgoings to the extent the outgoing is for earning income from business or it is necessary to run the day to day affairs of the business (Smith, Smillie, Fitzsimons, Lindsay, Wells, Marles & Atkinson, 2016).

Division 35 of the ITAA 1997 restricts businesses from deducting expenditures and losses from non-commercial business activities. Thus, the businesses are not allowed to deduct expenditures that are not for carrying business activities (James, Sawyer & Wallschutzky, 2015).

ATO in its website has specifically mentioned that a business will be allowed to deduct outgoings and losses of any kind to the extent these are essential for carrying on the business activities and or has been incurred to earn assessable income from business. Thus, in determining the deductibility of outgoings and losses for a business the most important consideration is that whether the same are essential to carry on the business activities and contribute in producing assessable income of such business (Gribnau, 2015).

Application to each specific situation shall be made here with respect to the deductibility of the expenditures and outgoings of Ruby Engineering Pty Ltd.

a. The cost of $8,500 incurred in replacing old kitchen fittings due damage from water and normal wear and tear is not related to the business operations of the company. The rental income from residential property is assessable income to the company as it is now in real estate business. Thus, the cost of $8,500 shall be allowed as deduction from assessable income from business of the company as it is for normal wear and tear (Saad, 2014).

b. Legal expenditures to defend a lawsuit against the business is an allowable deduction to the business provided it is not for a breach of law. Thus, in the ordinary course of business a business is allowed to deduct legal expenses from assessable income to compute taxable income from business (McIntosh, Trubka & Newman, 2015).

Restrictions under Division 35 of ITAA 1997

c. The agreement between Ruby and Diamond provided that the former shall be liable for any claims that arise prior to the selling of the business to the later. In 2016 the engineering business of Ruby was sold to Diamond. Thus, any liability contracted prior to that, Ruby will be liable. In this case the damages of $750,000 to be paid by Ruby shall be allowed as deduction as the revenue incurred in 2015 from sale of batch of parts were included in assessable income (Huizinga, Voget & Wagner, 2018).

Conclusion:

Taking into consideration the provision of section 8.1 of ITAA 1997 and division 35 of the act, the following conclusions have been drawn for the specific scenarios:

Cost incurred in kitchen of the rental property is in the ordinary course of business thus, is deductible expenditure. Similarly the legal expenditures and damages paid by the company both are expenditures and outgoing eligible for deductions during the year to compute taxable income of the company.   

2.

In Australia, capital gain tax (CGT) was introduced on 20^th September 1985. Thus, only assets acquired o or after that date is under the obligation of capital gain event. Thus, any asset acquired before 20^th September, 1985 is not subjected to the provisions of CGT of ITAA 1997 (Dixon & Nassios, 2016).

Betty acquired the painting before 20^th September, 1985 thus, no capital gain or capital loss from sale of the painting is to be considered for capital gain purpose. Thus, the sale proceeds of $125,000 from sale of the painting which was acquired for merely $2,000 will not attract any capital gain to Betty (Jacob, 2018).

The capital gain or capital loss from the sale of shares are calculated below:

Shares are held for more than 12 months are long term assets and thus, gain or loss resulting from such shares shall be classified as long term capital gain or loss as the case may be. Capital gain discount of 50% is allowed to the residents on assets held for a period of more than 12 months before the date of sale. Hence, 50% discount method has been used to calculate taxable capital gain of Betty. Betty’s capital gain from sale of shares is $13,850 for the year (Chardon, Freudenberg & Brimble, 2016).

Capital gain tax is not applicable on depreciated assets and assets used for personal purpose provided it costs less than $10,000. ATO guideline shows that no capital gain tax shall be payable on depreciated and personal assets. For personal assets costing over $10,000, this exemption does not apply (Kouparitsas, Prihardini & Beames, 2016).

The violin is a musical instrument which Betty plays on a regular basis. It is a personal asset of Betty. The asset at the time of acquisition costs only $5,500, i.e. lower than the prescribed limit of $10,000. Hence, the sale of violin will not be subjected to capital gain tax as it satisfies all the conditions to be exempted from capital gain tax (Richardson, Taylor & Lanis, 2015).

Net capital gain of Betty for the year ended on June 30, 2018 is calculated below:

Net capital gain of Betty for the year ended on June 3, 2018 is $13,850.

References:

Chardon, T., Freudenberg, B., & Brimble, M. (2016). Tax literacy in Australia: not knowing your deduction from your offset. Austl. Tax F., 31, 321.

Dixon, J. M., & Nassios, J. (2016). Modelling the impacts of a cut to company tax in Australia. Centre for Policy Studies, Victoria University.

Gribnau, H. (2015). Corporate social responsibility and tax planning: Not by rules alone. Social & Legal Studies, 24(2), 225-250.

Huizinga, H., Voget, J., & Wagner, W. (2018). Capital gains taxation and the cost of capital: Evidence from unanticipated cross-border transfers of tax base. Journal of Financial Economics.

Jacob, M. (2018). Tax regimes and capital gains realizations. European Accounting Review, 27(1), 1-21.

James, S., Sawyer, A., & Wallschutzky, I. (2015). Tax simplification: A review of initiatives in Australia, New Zealand and the United Kingdom. eJournal of Tax Research, 13(1).

Kouparitsas, M., Prihardini, D., & Beames, A. (2016). Analysis of the long term effects of a company tax cut (No. 2016-02). The Treasury, Australian Government.

McIntosh, J., Trubka, R., & Newman, P. (2015). Tax Increment Financing framework for integrated transit and urban renewal projects in car-dependent cities. Urban Policy and Research, 33(1), 37-60.

Richardson, G., Taylor, G., & Lanis, R. (2015). The impact of financial distress on corporate tax avoidance spanning the global financial crisis: Evidence from Australia. Economic Modelling, 44, 44-53.

Saad, N. (2014). Tax knowledge, tax complexity and tax compliance: Taxpayers’ view. Procedia-Social and Behavioral Sciences, 109, 1069-1075.

Smith, F., Smillie, K., Fitzsimons, J., Lindsay, B., Wells, G., Marles, V., & Atkinson, I. (2016). Reforms required to the Australian tax system to improve biodiversity conservation on private land. Environmental and Planning Law Journal, 33, 443-450.

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