ITAA 1997: Deductions, Input Tax Credits, Foreign Tax Offset, Partnership Income Calculation

Question 1

The section 4-15 of the Income Tax Assessment Act states that the taxable income is calculated by deducting allowable deductions from the assessable income.  The Section 8-1(1) of the ITAA 1997 provides that a person who pay tax have the right to claim for deduction against the expenses which are incurred for the purpose of:

1. Producing an assessable income;
2. For carrying on business activity.

1. The expenditure which is incurred for moving a machinery will not be considered as deduction which is stated under section 8-1 of the ITAA 1997.
2. The cost of revaluation of any asset cannot be granted as a deductible expense according to Section 8-1 of the ITAA 1997.
3. If any such expenditure occurs which is incurred in relation to legal proceedings to compete against the company’s winding up then such expenses will be allowed as deductible expenses as stated in section 8-1 of the Income Tax Assessment Act 1997.
4. In order to make business income, any expenditure which is experienced by lawyer must be taken as deductible expenditure which is permissible under section 8-1 of the Income Tax Assessment Act 1997[1].

If the required proof in connection to the purchase made by the company is preserved properly then only the GST input with respect to such purchase will be allowed. Any business or organization which is functioning for the purpose of earing income is entitled to claim input credit for the purchase of materials or assets in case of payments that are made including GST.

Big Bank limited spent an amount of $1,650,000 which is inclusive of GST for advertisement purpose. Now the bank wants to know that whether the amount which is spent for advertisement purpose including GST will be allowable as input credit or not.

As Chapter 2 of the GST Act conveys that any expenses or cost incurred by the organization or any business during the regular or normal course of business will be permitted to take input tax credit only if such expenditure is inclusive of GST.

Big Bank Limited is a well reputed company having more than 50 branches all over the country. The company mainly provides the people finance related services. The headquarters of the company is situated on a 10 storey building. During the recent period, Big Bank Limited have released some of its new products in the market which are home contents and insurance policy apart from giving loans and deposits to the people of the country over the years[2]. For the purpose of advertisement, the bank had already kept aside separately an amount of $1,650,000. Amongst this, an amount of $550,000 was held by the company for the purpose of advertising its home and insurance products and the rest of which was kept separately for advertising its other products and services. All the expenses made by the company are inclusive of GST

Hence it was found that an amount of $1,100,000 was incurred by the company for the purpose of promoting the company’s regular and existing products and services. Moreover the majority of the revenue of the company comes from this segment and thus it is an essential segment for the company. Whereas on the other hand, the newly launched segment that is insurance policy and home content is yet to contribute towards the revenue of the company. Since this segment is yet to contribute towards company’s income generation thus the amount of $550,000 incurred for the promotion of insurance and home content will be considered as capital expenditure.

Question 2

Conclusion:

Thus after reviewing the above discussion it can be realised that the amount of $1,100,000 will be permitted to receive input credit as it largely contribute toward company’s income generation. While the rest $550,000 will not be entirely disallowed to receive input credit due to the reason that 2% of such expense contribute towards the company’s revenue generation.

The section 770-10(1) of the Income Tax Assessment Act 1997 provides that a taxpayer is allowed to claim foreign tax offset for the tax that have been on foreign income. The tax in respect of which the credit is allowed is known as the creditable taxes. In this case the foreign tax offset that is allowed for the foreign tax paid by Angelo is calculated.

In this step the taxable income of Angelo is determined.

Angelo’s
Statement showing calculation of Taxable Income
Particulars	Amount	Amount
Gross Income
Employment income from Australia	$         44,000.00
Employment income from United States	$         12,000.00
Employment income from United Kingdom	$           8,000.00
Rental income from property in United Kingdom	$           2,000.00
Dividend income from United Kingdom	$           1,200.00
Interest income from United Kingdom	$              800.00
Total Assessable  Income		$   68,000.00
Less:
Allowable Deduction
Expenses incurred in deriving employment income from Australia	4,000
Expenses incurred in deriving employment income from United States	900
Expenses incurred in deriving rental income from United Kingdom	500
Gift to a deductible gift recipient	400
Interest (debt deductions) incurred in deriving dividend income	140
Expenses (debt deductions) incurred in deriving interest income	60
Total Allowable expenses		$     6,000.00
Total taxable Income		$   62,000.00

Table 1: Taxable Income

(Source: created by Author)

Angelo is not allowed to claim deduction for the medical expenses. The tax offset for the net medical expenses have been phased out from the 2015-16 to 2018-19. The only expenses that are eligible for the tax offset are attendant care, aged care or disability aid. In this case, the taxpayer is not eligible for the medical expenses tax offset[3].

In this step the amount of tax that is payable along with the Medicare levy is calculated.

Angelo’s
Statement showing Tax payable and Medicare Levy
Particulars	Amount
Tax Payable on Income	$11,697.00
Medicare Levy payable on taxable income	$1,240.00
Total Tax and Medicare Levy/ Tax Payable	$12,937.00

Table 2: Tax Payable

(Source: created by Author)

The taxable income of the taxpayer is less than $90000 so the Medicare levy surcharge is not applicable. 

In the third step the average rate of Australian tax that is payable on the taxable income is calculated using the formula provided below:

Average tax rate= (Gross tax + Medicare Levy+ MLS- Qualifying tax offset)/Taxable Income

In case of Angelo the average rate of Australian tax is calculated below:

Calculation Showing Average Australian tax
Particulars	Amount
Tax payable	$12,937.00
Taxable Income	$62,000.00
Average rate of tax	21%

Table 3 Average Rate of Tax

(Source: created by Author)

In this step it is to be determined if the taxpayer has more than one class of foreign income. In the current case the taxpayer has foreign rental income, foreign interest and foreign dividends. These income fall under the category of passive foreign income tax class. In addition to this the taxpayer also has foreign employment income and foreign pension income that falls under the category of the other foreign income. In this case as the taxpayer has income from both the classes therefore it is required to make two separate calculation.

Question 3

In this step the net income for each class of foreign income is calculated. The net foreign income is included in the assessable income of the taxpayer. The net foreign income is calculated by deducting from the assessable income the following:

• The expenses that have been incurred for each class of foreign income and it does not includes debt deductions;
• The domestic loss that have been carried forward from the previous year that is adjusted against the current foreign income;
• Other deduction that are attributable to that class of foreign income is also allowed as deduction;

In this case Angelo’s is required to compute net foreign income from passive and other foreign income. The calculation are provided below:

Calculation of passive foreign Income
Particulars	Amount	Amount
Gross Foreign Rental income	$           2,000.00
Expenses incurred	$             (500.00)
Net Foreign rental income		$     1,500.00
Gross Foreign Dividend Income	$           1,200.00
Expenses debt deduction not allowed	$                      –
Net Foreign Dividend income		$     1,200.00
Gross foreign interest income	$              800.00
Expenses debt deduction is not allowed	$                      –
Net Foreign interest income		$        800.00
Net Passive Foreign Income		$     3,500.00

Table 4: Passive Foreign Income

(Source: created by Author)

Calculation of other foreign Income
Particulars	Amount	Amount
Gross income from Employment USA	$         12,000.00
Expenses incurred for generating income	$             (900.00)
Net employment income from USA		$   11,100.00
Employment income from United Kingdom		$        800.00
Net other Foreign income		$   11,900.00

Table 5: Other foreign Income

(Source: created by Author)

In this step the net foreign income is adjusted for each class. In this step any deduction that is allowed is claimed from each class of foreign income. In the case the ANFI for each class of transaction are provided below:

It should be noted that the donation of $400 as deduction for the charitable organisation should be provided across both class of foreign income.

Calculation of Adjusted ANFI for each class of foreign income
Particulars	Passive Income	Foreign income
Net Foreign income	$           3,500.00	$           11,900.00
Taxable Income	$         62,000.00	$           62,000.00
Taxable Income (including donation)	$         62,400.00	$           62,400.00
ANFI	$           3,477.56	$           11,823.72

Table 6: AFNI

(Source: Created by Author)

In this step the foreign tax credit for each class of transaction are calculated. The amount of Australian tax that is payable on each class of foreign income is calculated by multiplying the AFNI with the average Australian tax rate. 

Calculation of Australian tax payable on each class of foreign income
Particulars	Passive Income	Foreign income
Net Foreign Income	$           3,477.56	$           11,823.72
Average Tax Rate	21%	21%
Australian Tax on each class of income	$              725.63	$             2,467.15

Table 7: tax payable on foreign income

(Source: created by Author)

This are the amount of tax that is payable on each class of income. The tax credit allowed is the lower of Australian tax payable on the foreign income or the foreign tax paid. The deduction that is allowed is given below:

Statement showing Deduction that can be claimed
Particulars	Passive Income	Other income
Australian Tax on each class of income	$              725.63	$             2,467.15
Foreign tax paid	$              800.00	$             3,600.00
Allowable Foreign Tax Offset	$              725.63	$             2,467.15

Table 8: Allowable Deductions

(Source: Created by Author)

It can be seen that the taxpayer has already paid more than the Australian Tax payable on each class of transaction. Therefore the foreign tax offset that is claimed in passive income is $725.63 and in case of the other income $2467.15. The total foreign tax credit that Angelo can claim is $3192.79.

Reference

Forsyth, Peter, Larry Dwyer, Ray Spurr, and Tien Pham. “The impacts of Australia’s departure tax: Tourism versus the economy?.” Tourism Management 40 (2014): 126-136.

McLachlan, Rosalie. “Deep and Persistent Disadvantage in Australia-Productivity Commission Staff Working Paper.” (2013).

Taylor, Grantley, and Grant Richardson. “The determinants of thinly capitalized tax avoidance structures: Evidence from Australian firms.” Journal of International Accounting, Auditing and Taxation 22, no. 1 (2013): 12-25.

[1] Forsyth, Peter, Larry Dwyer, Ray Spurr, and Tien Pham. “The impacts of Australia’s departure tax: Tourism versus the economy?.” Tourism Management 40 (2014): 126-136.

[2] McLachlan, Rosalie. “Deep and Persistent Disadvantage in Australia-Productivity Commission Staff Working Paper.” (2013).

[3] Taylor, Grantley, and Grant Richardson. “The determinants of thinly capitalized tax avoidance structures: Evidence from Australian firms.” Journal of International Accounting, Auditing and Taxation 22, no. 1 (2013): 12-25.