Tax Treatment for Accounting Items
In the accrual accounting process an expenditure that originates from the identification of the liabilities should be measured by referring to the anticipated cash flow on the liability. Likewise, the income tax expenditure should reflect the amount of income taxes to be paid in cash whether for the accounting period or for the future period. The current report will be addressing the CFO of the Technological Computer Pty Ltd regarding the tax treatment of the accounting items. An interpretative explanation would be provided for the tax treatment of each accounting transactions by referring to the relevant statutory provisions of the “ITAA 1997” and “ITAA 1936”.
Below listed are the tax treatments for the every items with relevant application of statutory provisions, cases and rulings;
1). Trading stock on hand: According to the “section 28 of the ITAA 1936” it requires the taxpayers to value the trading stock on hand at the start and at the end of the income year in determining the taxable income of the taxpayer in carrying out the business (Woellner et al. 2016). The court of law in “All States Frozen Foods Pty Ltd v FC of T (1990)” upheld its decision by stating that the goods that are en route from the overseas suppliers were in definite situations regarded as the trading stock on hand for the taxpayer.
According to the “taxation ruling of IT 2670” goods are treated as the trading stock on hand within the meaning of “section 28 of the ITAA 1936”, irrespective of the fact that they are yet to be delivered physically to the business premises of the taxpayer or it is in the position of disposing of the goods (Robin 2017). Here the trading stock is in transit from Singapore and the same will be considered as trading stock on hand for Technology Computer Pty Ltd. The amount results in increase in the stock value over the year therefore it is included in the assessable income.
2). Service revenue $50,000: The “taxation ruling of TR 2014/1” is associated to the derivation of income from the agreements relating to the right of using the proprietary software and provisions relating to the services. According to the “taxation ruling of TR 2014/1” where the amount is adequately attributable based on the contract obligations under the subject of “contingency of repayment” the sum will be considered derived under the purpose of “section 6-5 of the ITAA 1997” when the obligations is entirely performed or the contingency of repayment otherwise lapses.
As held in “Arthur Murray (NSW) Pty Ltd v FC of T (1965)” where the basic obligations is completely performed or the contingency of repayment has lapsed the amount that is appropriately billed to the obligations turns from “unearned income” to “earned income” (Blakelock and King 2017). The sum of $50,000 will be included as service revenue for assessment under the ordinary meaning of “section 6-5 of the ITAA 1997”.
3). Depreciation on Plant: The depreciation expenses is identified in compliance with the AASB 116 property plant and equipment by allocating the assets depreciable sum in a systematic manner over the useful life of the asset (Burton 2017). The treatment for tax is based on the set rates given by the tax office. Similarly the deprecation expenses on plant amounting to $300,000 will be included added back under the heads of “amounts not deductible and other assessable amounts” instead of considering the sum of $375,000 in determining the net accounting profit after tax. This is because the methods adopted for accounts is different from the methods adopted for tax purpose.
Trading Stock on Hand
4). Accounting profit on sale of machine: The sale of machine has resulted in gains for accounting purpose represents the taxable profit of the machine based on the original cost (Chardon, Brimble and Freudenberg 2017). The accounting profit made from the sale of the machinery is included into the taxable profit on the basis of the original cost of the machinery.
5). Repairs and Maintenance Expenditure: The tax treatment for repairs and maintenance expenses is given below;
- a) Cost of replacing the entire roof: The “taxation ruling of TR 93/23”provides the explanation relating to the circumstances under which the expenditure that is incurred by the taxpayer on the repairs are considered for deductions under the “section 25-10 of the ITAA 1997” (Maley 2018). In context of “section 25-10 of the ITAA 1997” the term repair is related to the work done on the premises, plants or articles. Evidently where the expenses incurred in replacing or substantial reconstruction of entirety are allowed for deductions.
Under “section 25-10” of the act cost occurred for repairs are not deductible if the expenses are capital in nature. As held in “Sun Newspaper Ltd v FC of T (1938)” held that cost incurred in replacing a business structure is working or operating expenditure (Kiprotich 2016). Likewise the cost replacing is the entire will be allowed as deductions. The expense of $90,600 is deductible under the heads of “deductible amounts”.
b). Cost of demolishing redundant building: The cost that is incurred on demolishing the redundant building constitute work done in the sense of reconstruction of the entirety. In “Hallstorms Pty Ltd v FC of T (1946)” the court of law stated that expenses that are occurred in establishing or replacing the profit-yielding structure is capital expenses under “section 25-10” of the act (Miller and Oats 2016). In the current context if Technology Pty Ltd the expense of $5,400 is added back to profit on the basis of “items not allowed as deductions”.
c). Cost of converting the old storeroom into factory space: A guidelines has been provided to differentiate between the capital and revenue outgoings by the court in “Sun Newspaper Ltd v FC of T (1938)” for the purpose of forerunners under “section 8-1” of the act (James and Nobes 2016). The decision of court have indicated that expenses occurred for enlarging the profit generating structure is not allowed for deductions. The cost of $14,800 incurred by Technology Pty Ltd for converting the old storeroom into factory space represents the renewal in the sense of reconstruction of the entirety. The expenses of $14,800 is added back to profit on the basis of “items not allowed as deductions”.
6). Borrowing expense written off: Expenses will be allowed for deductions under “section 8-1 of the ITAA 1997” if the expenses has sufficient association with the operations and activities that is more directly associated to the generation of taxpayers assessable income. In “FC of T v Lunney & Anor (1958)” the essentially characteristics of the expenses should be determined as whether the outgoings has been incurred in producing the assessable income or necessarily occurred in carrying on of the business (Keen and Mullins 2017). Similarly the court in “Charles Moore & Co (WA) Pty Ltd v FC of T (1956)” held that the expenditure should have the necessary association with the activities and the operations which is more directly related to gain or generation of assessable income.
The expenses must meet the statutory criterion to be considered as outgoing incurred in gaining assessable income. The borrowing expenses incurred by the Technology Pty Ltd here is more directly related to gain or generation of assessable income. The expenses meet the statutory criterion to be considered as outgoing incurred in gaining assessable income. Therefore, the borrowing expenses of $5,400 is considered for subtraction purpose under the heads of “deductible and non-assessable”.
Service Revenue $50,000
7). Surplus on sale of land: According to the “section 108-5 of the ITAA 1997”, CGT asset refers to any form of property or the equitable rights that is not treated as the property. A “CGT event A1” under “section 104-10 (1) of the ITAA 1997” occurs when the entity disposes a CGT asset (Zeff 2016). When an entity sell the commercial property it is more likely to make the capital gains or loss. Capital gains made thereof are subjected to capital gains tax based on the concessions for the small business. Technology Pty Ltd has reported an accounting profit from the sale of surplus land which resulted in CGT event A1 under “section 108-10 (1) of the ITAA 1997”. The accounting profit has been included as assessable amounts in determining the net amount of tax payable.
8). Employee entertainment cost: The employee entertainment costs has been recognized as the expenses in the accounting profit and the same has been allowed as deductions.
9). Provision for holiday and long service leave: An accrued employee entitlement in the form of provision of long service leave is treated as the liability for entity under the accounting standards (Oats, Miller and Mulligan 2017). For the purpose of taxation, an accrued leave entitlement of the employee is not regarded for deductions during the year in which it accrues. The expenses will be only allowed for deductions by the company on the conditions that the liability is discharged.
Consequently, an adjustment is necessary under the “section 705-80” where the liabilities of the joining entity should include such provision (Weinzierl 2018). In the current situation of Technology Pty Ltd the directors have created a provision for long service leave that amounted to $60,000. The provision for long service leave should be treated as the liability of Technology Pty Ltd in accordance with the accounting principles for the purpose of tax cost setting. The amount has been added back under the heads of “amounts non-deductible”.
10). Research expenses on feasibility of opening new factory: According to the general provisions given under the “section 8-1 of the ITAA 1997” losses or outgoings that are preliminary to the beginning of the revenue generating activities of the taxpayers are treated as not incurred in the course of business (Grange, Jover-Ledesma and Maydew 2014). A guidelines has been provided to differentiate between the capital and revenue outgoings by the court in “Softwood Pulp and Paper v FC of T (1976)” for the purpose of forerunners under “section 8-1” of the act (Kenny, Blissenden and Villios 2018). The court stated that feasibility study and other expenses incurred in determining whether or not the open a new paper production was not allowed as deductions. The court held that the expenses were preliminary in the beginning of the revenue producing activity. Similarly, the expenses incurred by Technology Pty Ltd on feasibility study of opening a new factory in Perth is a preliminary expenses which is not allowed for deductions. The amount has been added back under the heads of “amounts not deductible and other assessable amounts”.
Depreciation on Plant
11). Bad debt write off$5,500: The “taxation ruling of TR 92/18” is associated with the discussion relating to the writing of the bad debts. The “taxation ruling of TR 92/18” provides the clarifications to the situations where the deductions for bad debt is allowed for taxation purpose. Under “section 63 of the ITAA 1997” the bad should be written off during the year of income prior to claiming the bad debt deductions (Sadiq et al. 2018). A taxpayer is allowed to claim deductions for the bad debt in the year of income in which the debt is written off. The court in “FC of T v Point” held that debt should be existence in order for the debt to be written off as bad.
As evident in the current situation of Technology Pty Ltd the company has reported the writing off the bad debt that amounted to $5,500. The debt was written off during the year of income by the company. Therefore, the amount has been included for subtractions under the heads of “deductible amounts” for determining the net amount of tax payable.
Conclusion:
On a conclusive note the reconciliation worksheet has undertaken each of the items listed by the company in order to determine the taxable profit and the net amount of tax payable by the company. The worksheet began with the accounting profit or the profit before tax and relevant applications of case laws, rulings and legislations was considered to provide the CEO with the accounting treatment for tax purpose for each of the listed transactions. The net amount of tax payable by the Technology Pty Ltd represents the amounts that is payable by the company to the tax office on assessment for the assessment year by applying the current tax rate and tax laws.
References:
Blakelock, S. and King, P., 2017. Taxation law: The advance of ATO data matching. Proctor, The, 37(6), p.18.
Burton, M., 2017. A Review of Judicial References to the Dictum of Jordan CJ, Expressed in Scott v. Commissioner of Taxation, in Elaborating the Meaning of Income for the Purposes of the Australian Income Tax. J. Austl. Tax’n, 19, p.50.
Chardon, T., Brimble, M. and Freudenberg, B., 2017. Tax and superannuation literacy: Australian and New Zealand perspectives [Part 1]. Taxation Today, (102), pp.17-25.
Grange, J., Jover-Ledesma, G. and Maydew, G. 2014.Principles of business taxation.
James, S.R. and Nobes, C., 2016. Economics of Taxation: Principles, Policy and Practice. Fiscal Publications.
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Maley, M.N., 2018. Australian Taxation Office Guidance on the Diverted Profits Tax.
Miller, A. and Oats, L., 2016. Principles of international taxation. Bloomsbury Publishing.
Oats, L., Miller, A. and Mulligan, E., 2017. Principles of International Taxation.
Robin, H., 2017. Australian taxation law 2017. Oxford University Press.
Sadiq, K., Coleman, C., Hanegbi, R., Jogarajan, S., Krever, R., Obst, W., Teoh, J. and Ting, A. 2018. Principles of taxation law.
Weinzierl, M., 2018. Revisiting the Classical View of Benefit?based Taxation. The Economic Journal, 128(612), pp.F37-F64.
Woellner, R., Barkoczy, S., Murphy, S., Evans, C. and Pinto, D., 2016. Australian Taxation Law 2016. OUP Catalogue.
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