Background Information
Discuss about the Taxation Law for RIP Finance Pty Ltd.
RIP Pty Ltd is a resident private company carrying on the business of undertaker/funeral director. It operates out of premises comprising office facilities, a chapel and assembly area and professional rooms. Its other assets include a fleet of motor vehicles. For the year ended 30 June 2016 the company reported a net profit of $2.45m. Its income arises from the provision of funeral services financed as follows:
- Fees payable under a ‘net, 30 days’ invoice.
- Fees payable under several external insurance contracts to which bills are issued under a ‘net, 30 days’ arrangement. For instance, some funeral costs are paid by the Transport Accident Commission, others are paid out of private life assurance plans.
- Fees received from RIP Finance Pty Ltd, a company providing credit under an installment repayment plan.
- Amounts paid under a funeral plan in which clients make periodic contributions to meet future funeral costs. ‘Easy Funeral Plan’ is a fixed price contract. When the agreed amount is paid, the client is guaranteed a ‘deluxe funeral arrangement’. If the contract price in not fully paid at date of death, the deceased’s estate is billed under (i) or (iii), above. The amount is not refundable or transferable. At 30 June the credit balance Easy Funeral Plan is $225,000. From time-to-time amounts paid pursuant to the Easy Funeral Plan are not drawn upon. The clients might die abroad or remains not be recovered and no funeral service is provided. No refund issues arise.
- At 30 June, the company transfers from Easy Funeral Plan amounts estimated to have arisen in connection with defaulting members (ie, members who have ceased making scheduled payments and who are not expected to make up arrears). These are credited to a ‘Forfeited Payments Account’ that has a balance at 30 June of $16,200.
According to Section 25(1) of the Income Tax Assessment Act, 1936-1965 (Commonwealth), “the assessable income of a taxpayer include the gross income derived directly or indirectly from all sources, in the case of a taxpayer resident in Australia, or from all sources in Australia in the case of a non-resident taxpayer”.
Here the meaning of the words “income derived” had been considered by the High Court of Australia in Arthur Murray (N.S.W.) Pty. Limited v. Commissioner of Taxation of the Commonwealth.
In the aforesaid case, the RIP Pty Limited to is engaged in providing funeral services. It has various plans for its services. The company has provided the provisions that it can receive its payment of fees in full or in installments. Here, the company has received its fees in terms of installments. The company has not yet received any full consideration amount till now. Thus, on the basis of the definition provided by the Income Tax Assessment Act, the assessable income of a taxpayer include the gross income of the organization.
This case can be better understandable with the case law of the Arthur Murray (NSW) Pty Ltd v FCT (1965) 114 CLR 314. According to the Arthur Murray (NSW) Pty Ltd v FCT (1965) 114 CLR 314 case, Arthur Murray (N.S.W) Pty limited holds a license from a company based in United States. The company was engaged in providing dancing lessons in Sydney and Melbourne. Some of the students entered into a contract to take dancing lessons from the aforesaid company. The classes offered by the company were generally of five, ten and fifteen hour in a period of one year. Accordingly, payments were made by the students and contract was signed. The contract mentioned that it can occasionally provide about 1200 dancing classes. Most of the payments were made in fill or by deposit of substantial amount followed by the installments paid during the course of the lessons provided.
Income Derivation of RIP Pty Ltd
The provisions of the contract states that it is not divisible and the student have the responsibility to pay the full tuition fees set forth. No refunds and No cancellation of the contract.
The main issue of this case was if the taxpayer received the pre paid fees in the year in which the dancing classes were provided or the year in which the fees were meant to be received.
The court in the aforesaid case held that no income had been derived until the services rendered.
This case law can be applied in the aforesaid case i.e. the case RIP Pty Limited is as well. Here, the company has been receiving money from its clients in terms of full payment or in installments under various plans. The company has not yet provided any services to its clients. According to the nature of the business, the client or one of its family members must die to avail the services of the company. The funeral ceremony can took place only if a person dies.
Here, the death of the person is the deciding the factor for aviation of the services of the company. The client is paying for the services which he will get in future. Here, the fees made by the client will be considered as prepaid fees which are being deposited in the company’s account. Here, income of the company is not derived yet according to the judgment provide by the court for the case of Arthur Murray (NSW) Pty Ltd v FCT (1965) 114 CLR 314. The judgment of the case suggests that the income will be considered as generated income only if the services provided to the client for which income was generated.
In this case also the income is not generated income. The income will be generate if the client or any of its family members died.
According to the Arthur Murray (NSW) Pty Ltd v FCT (1965) 114 CLR 314 case, Arthur Murray (N.S.W) Pty limited holds a license from a company based in United States. The company was engaged in providing dancing lessons in Sydney and Melbourne. Some of the students entered into a contract to take dancing lessons from the aforesaid company. The classes offered by the company were generally of five, ten and fifteen hour in a period of one year. Accordingly, payments were made by the students and contract was signed. The contract mentioned that it can occasionally provide about 1200 dancing classes. Most of the payments were made in fill or by deposit of substantial amount followed by the installments paid during the course of the lessons provided.
Applicability of Arthur Murray Principle to Easy Funeral Plan
The provisions of the contract states that it is not divisible and the student have the responsibility to pay the full tuition fees set forth. No refunds and No cancellation of the contract.
The main issue of this case was if the taxpayer received the pre paid fees in the year in which the dancing classes were provided or the year in which the fees were meant to be received.
The court in the aforesaid case held that no income had been derived until the services rendered. The court also discovered that the gains and profits of the company have not only derived from the taxpayer which can be called as come home receivables. The court was also of the opinion that if the sum received will be considered as gain or there is legal obligation to the same.
The court then focused on the qualification regarding the concept of income derived. Here, even if the fees were paid in advance there is no legal implication in the way of the recipient of the dealing.
According to the rules and guidelines of the accountancy and commercial practices, the amount received in advance of the goods or services which are not yet provided by the seller or service provider, it will not be considered as the as revenue and will not be entered in the revenue account until the services are not provided to customer.
The prepaid fees received by the clients will be credited to a account named suspense account and the income account of the business took place only after the services are provided to the clients. After the aforesaid process only the income generated will get the recognition of the character of income.
In the aforesaid judgment also applicable in the case of RIP Pty Limited is as well. Here, the company has been receiving money from its clients in terms of full payment or in installments under various plans. The company has not yet provided any services to its clients. According to the nature of the business, the client or one of its family members must die to avail the services of the company. The funeral ceremony can took place only if a person dies.
Analysis of the easy funeral plan suggests also it is a suspense account created for the reservation of the pre paid amount received by the client. According to the rules and guidelines of the accountancy and commercial practices, the amount received in advance of the goods or services which are not yet provided by the seller or service provider. Here, the amount received will not be considered as a derived income and revenue and it cannot be entered in to the books of accounts of the company.
Choice in the Method of Accounting for Tax
In case of Arthur Murray (NSW) Pty Ltd v FCT (1965) 114 CLR 314t, the taxpayer adopted the method of accounting which is popularly known as the Accrual or Earrings Method. According to the aforesaid method all the payments received will be considered as advance payment and the same will be credited to an account named general Reserve instead of credited to the account named unearned deposits and untaught lessons account.
Each of the lessons given by the instructor must be recorded in record sheets which will act as a registration of the student of the company. The record must contain the details of the sum received at the end of the particular month and same will also be seen in instructor’s sheet also transferred to an account named the earned tuition account. Thus, according to the aforesaid reason the money transferred will not be treated as assessable income until it is actually earned.
The members of the court Barwick, C.J., Kittto and Taylor, JJ. provided the said lessons under this case. They added that at the end of the year, the income which are unearned and will be carry forward to the following year.
The same principle can also be applied by RIP Pty Limited. The company is transferring the advance payment of fees to forfeited account instead of transferring to general reserve or suspense account. This provision for the settlement oif account should be made for the smooth and authentic record keeping of the data.
From the above explanation and discussion it cane be concluded that the payments received by the company cannot be considered as a revenue or income for the company. According to the rules and guidelines of the accountancy and commercial practices, the amount received in advance of the goods or services which are not yet provided by the seller or service provider, it will not be considered as the as revenue and will not be entered in the revenue account until the services are not provided to customer. The prepaid fees received by the clients will be credited to a account named suspense account and the income account of the business took place only after the services are provided to the clients. After the aforesaid process only the income generated will get the recognition of the character of income.
Here, the forfeited account will be considered as suspense account for the implication of tax.
- a) RIP Pty Ltd holds a stock of three types of caskets as well as a range of accessories (such as religious and secular icons). In June 2016 the company prepaid $25,000 for material to be delivered in August 2016. The company obtained considerable discounts for the advance purchase.
- b) A fully franked cash dividend of $21,000 was received from RIP Finance Pty Ltd.
- c) An amount of $57,000 was paid on 1 March 2016 for two year’s rental of storage space. The lease expires on 28 February 2018. In the company’s financial accounts an amount of $9,500 was expensed and $47,500 capitalised.
- d) On 1 June 2016 the managing director of RIP commenced three months long service leave and was paid $22,000 in advance. In the company’s accounts the amount was debited against a Provision for Long Service Leave Account.
- e) In 2013 the company’s Board of Directors decided existing accommodation was inadequate and it resolved to construct a purpose built facility. In that year $250,000 was paid for preliminary architectural designs. In 2014 land costing $1.25m was acquired and $50,000 paid to demolish an existing structure. Construction of the new premises commenced on 1 September 2014 at a cost of $2.5m. Fitting and equipment was installed on 1 June 2015; operations began on 1 August 2015. On-site car parking costing $125,000 was completed on 30 September and landscaping of the site was completed on 31 January 2016 at a cost of $40,000.
According to the provisions of the Australian Taxation Office, an income to be considered as an business income must be generated through the business operation which are directly related to the day to day operation of the business. Then only it will be considered as business income and will be assessed to tax. Here, the income generated is a prepaid income for which services are not provided yet.
According to the rules and guidelines of the accountancy and commercial practices, the amount received in advance of the goods or services which are not yet provided by the seller or service provider, it will not be considered as the revenue and will not be entered in the revenue account until the services are not provided to customer. As it is a prepaid amount it will not be considered for tax purposes.
The options b, c and d provides the details of the capitalization of the profits of the company. The company has received a cash dividend of $21,000 was received from RIP Finance Pty Ltd and received an amount $57,000 for rental storage space. However, expenses are also incurred for $9,500 and $22,000.
According to the provisions of the Australian Taxation Office, the adjustments of the incomes of the company will be made only if it is generated from business and not from any other source. It should be of direct source of business. Here, the first two incomes are considered as business income as it is related to the business i.e. dividend received and rent received which was given for business purposes. Providing the long leave service account to the employee is not considered as a business income.
According to the provisions provided by the Australian Taxation office, a tax deduction can reduce the burden of payment of tax. The tax deduction can reduce or decrease the amount of taxable income. One can claim for the tax deduction if most of the expenses incurred are directly or indirectly related to the business. Rebates, concession, offset can also reduce the tax reduction.
As per the provisions provided by the Australian Taxation office one can claim for the deduction for expenses of business if it is incurred in relation to the day to day running of the business. This will be considered as the assessable income. The following are the conditions which must be followed to identify the deductible expenditure:
The money spent must be related to the business
If the money spent is a mix of business and personal use, the company can claim only the portion related to the business use
The expenditure spent for business purposes must have a record
In the aforesaid case, the business incurred the following expenses;
Preliminary architectural designs $250,000
Land costing $1.25m
Demolish an existing structure $50,000
Construction of the new premises cost $2.5m.
On-site car parking cost $125,000
Landscaping of the site cost $40,000.
The aforesaid expenses are related to the smooth running and improvement of the business. The aforesaid expenses are not incurred for private use. Thus, the company can claim deductions for the aforesaid amounts.
References
(n.d.).
Arthur murray nsw pty ltd v fct 1965 114 clr 314 the. (n.d.). Retrieved from ttps://www.coursehero.com/: ttps://www.coursehero.com/file/p6ddtac/Arthur-Murray-NSW-Pty-Ltd-v-FCT-1965-114-CLR-314-The-taxpayer-was-a-dance/
Arthur Murray(Ns) Pty Ltd V Fct (1965) 114 Clr 314. (2012, October 26). Retrieved from https://www.bartleby.com: https://www.bartleby.com/essay/Arthur-MurrayNs-Pty-Ltd-V-Fct-1965-P33LLNLK6YYS
deductions, o. (n.d.). Retrieved from https://www.ato.gov.au/: https://www.ato.gov.au/individuals/income-and-deductions/deductions-you-can-claim/other-deductions/
Office, A. T. (n.d.). Amounts not to be included as income. Retrieved from https://www.ato.gov.au/: https://www.ato.gov.au/Individuals/Income-and-deductions/Income-you-must-declare/Amounts-not-included-as-income/
Office, A. T. (n.d.). Deductions you can claim. Retrieved from https://www.ato.gov.au/: https://www.ato.gov.au/Individuals/Income-and-deductions/Deductions-you-can-claim/
Prepaid Income – Arthur Murray Case. (n.d.). Retrieved from https://www.stptax.com/: https://www.stptax.com/tax-tips/prepaid-income-arthur-murray-case/
Review, S. L. (n.d.). When Is Income Derived? Arthur Murray (n.s.w.) Pty. Limited v. Commissioner Of Taxation Of The Commonwealth .
Studymode. (2012, October 24). Arthur Murray(Ns) Pty Ltd V Fct (1965) 114 Clr 314. Retrieved from https://www.studymode.com/: https://www.studymode.com/essays/Arthur-Murray-Ns-Pty-Ltd-v-Fct-1141814.html
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