Tax Deduction And Capital Gains: A Comprehensive Analysis

Tax Deductibility of Expenses

The various aspects of the transactions would be analysed in regards to determine the tax deductible expenses for the taxpayer Ruby Engineering Pty Ltd.

• The expenditure paid by taxpayer in regards to replace the kitchen fittings would be classified as repairs under TR 97/23. This is because the taxpayer does not have any motive to change the character of the kitchen fittings which is evident from the fact that same type of material as well as layout has been taken into account. The taxpayer can claim for the tax deduction on the account of spending incurred on repairing under two provisions which are s. 8(1) ITAA 1997 and s. 25(10) ITAA 1997 (Barkoczy, 2017).

It is essential to note that 100% tax deduction would be available for the taxpayer as per s. 8-1 ITAA 1997 if the taxpayer is able to prove the relation between the incurred expenses and the assessable income production (Krever, 2017). Further, in this regards it is imperative that the expenses must not be categorised as capital expense. In accordance with s. 25(10) ITAA 1997 the deduction would be available for the taxpayer on the account of expenses incurred on repairs of income producing properties though it is essential that expenses must be revenue type (Reuters, 2017).

Based on the given information, it can be said that expenses incurred in the kitchen fitting are capital in nature. This is because kitchen fittings such as fixing stove, sink, cupboard and pluming are termed as part of the property only owing to them being permanent in nature. Therefore, the expenses would be considered as capital expenditure and would contribute to the cost base of the asset as per s. 110-25(5) ITAA 1997. Taxpayer would not be able to claim any tax deduction on this capital expense (Sadiq et. al., 2015).

• The legal expense incurred with respect to rental property would be tax deductible only when the property would result in assessable income for the taxpayer. Further, the essential aspect is to check the nature of the expenses (capital or revenue).  The nature of the outgoing would be determined based on the characteristics of the benefits generated from the outgoing as defined in the judgement of British Insulated and Helsby Cables Ltd v. Atherton[1926] AC 205 case. The benefits derived from capital expenses must be long lasting, significant and are not restricted to a limited period (Deutsch, Freizer, Fullerton, Hanley & Snape,2015).

It can be seen that taxpayer is involved in a real estate business where the negligence related claim are quite frequent. Further, the legal expenses incurred in this do not provide any long term benefit to the taxpayer and rather it restricts the negligence liability (Coleman, 2016). Hence, the expenses are revenue expenses and taxpayer can claim for the tax deduction under s. 8(1) ITAA 1997.

• Company has shifted their business from manufacturing company to real estate business. There is some litigation as customer has been provided with defective engines/associated parts. Further, due to this litigation the reputation of the company and the financial cash outflows are also affected and thus, the business of the company is affected negatively. In accordance with s. 8(1) ITAA 1997 the deduction would not be available for taxpayer because the expense is capital expense (Sadiq et. al., 2015). Further, if it has been considered that the claim amount would be an outflow in relation to business operation and therefore, 100% tax deduction would be available for taxpayer under s. 40-880, ITAA 1997 as five equal annual payments (Barkoczy, 2017).

The aim is to determine the net capital gains or losses for the given transaction incurred by Betty for the sale of her capital assets.

Asset: Painting

Assets that are purchased by the taxpayer earlier than September 20, 1985 are considered as pre-CGT assets in accordance with s. 149(10), ITAA 1997. Capital Gain Tax (CGT) implications would not be imposed on the capital gains or losses derived from the sale of pre-CGT asset. Hence, it is essential to determine whether the asset belongs to pre-CGT asset or not (Deutsch, Freizer, Fullerton, Hanley & Snape,2015). Betty has purchased the painting before September 20, 1985 which implies that painting is a pre-CGT asset of Betty and hence, CGT implication would not be levied on her.  Further, the capital proceeds from asset sale are also tax free as highlighted in s. 116-5 ITAA 1997 (Krever, 2017).

Capital Gains and Losses: Betty’s Transactions

Asset: Shares

The shares are purchased after September 20, 1985 and hence, they are not categorised as pre-CGT asset and hence, the CGT implication would be imposed on the taxpayer on the derived capital gains or losses. The disposal of shares is a CGT event of sub category A1 under s. 104(5), ITAA 1997 and hence, the procedure for capital gains/loss would include cost base of the asset and the income from the sale of the asset. Further, the cost base of the asset comprises five main elements which are defined in s. 110-25 ITAA 1997 (Reuters, 2017).

The capital losses which are unsettled would also be adjusted with the capital gains derived from the same type of assets. Further, when the taxpayer has held the capital assets for atleast one year, then the capital gains would be termed as long term capital gains and hence, only 50% of the produced capital gains would be used for CGT consequences under s. 115 (25), ITAA 1997. The CGT rate of flat 30% would be applied on the net capital gains/losses to find the net CGT liability (Coleman, 2016).

Asset: Violin

In accordance with s. 118(10) ITAA 1977, violin is considered as collectible. It is apparent from the case facts that Betty has keen interest in playing violin and she plays it regularly and hence, it can be said that violin is a personal use asset of the taxpayer. The key condition in regards to CGT implication validity on taxpayer for personal use asset is that the respective asset must be bought for more than $10,000 (Sadiq et. al., 2015).

Here, the asset is purchased after September 20, 1985 which means it is not a pre-CGT asset but the key condition is not satisfied as Betty has purchased the violin for a consideration of $5,500. Therefore, CGT liability will not be imposed on the taxpayer for the capital gains/losses received from the sale of violin. Further, the capital proceeds from asset sale are also tax free as highlighted in s. 116-5 ITAA 1997 (Deutsch, Freizer, Fullerton, Hanley & Snape,2015).

 References

Barkoczy, S. (2017) Foundation of Taxation Law 2017. 9^th ed. Sydney: Oxford University Press.

Coleman, C. (2016) Australian Tax Analysis. 4^th ed. Sydney: Thomson Reuters (Professional) Australia.

Deutsch, R., Freizer, M., Fullerton, I., Hanley, P., and Snape, T. (2015) Australian tax handbook.  8th ed. Pymont: Thomson Reuters.

Krever, R. (2017) Australian Taxation Law Cases 2017. 2^nd ed. Brisbane: THOMSON LAWBOOK Company.

Reuters, T. (2017) Australian Tax Legislation (2017). 4^th ed. Sydney. THOMSON REUTERS.

Sadiq, K., Coleman, C., Hanegbi, R., Jogarajan, S., Krever, R., Obst, W., and Ting, A. (2015) Principles of Taxation Law 2015. 7th ed. Pymont: Thomson Reuters.