Taxation Calculation For ITA Act 1997

Personal service income under ITA Act 1997

Describe about the Taxation Calculation for ITA Act 1997.

1. The section 4-1 of the ITA Act 1997 it is stated that every company, individual and some other entities are required to pay tax. This tax is payable on the assessable income of the taxpayer. The ITA Act 1997 under section 6-5 and section 6-10 further classifies assessable income as ordinary income and statutory income. The section 84-5 of the ITA Act 1997 defines Personal service income as an ordinary income or statutory income derived by an individual mainly because of personal skill and effort (Woellner et al. 2016). The income gained by an entity mainly due to personal effort of an individual will also be included in the personal service income. The general rule is that if more than 50% of the income form a contract is generated due to the personal effort, skill and expertise then the total income from the contract is classified as Personal service income. The Para 17 of the Taxation Ruling IT 2121 and Para 36 of Taxation Ruling IT 2330 provide few examples of personal service income, which are as follows:

Wages and salary;

Income derived on own account by a professional person without taking any professional assistance;

Income derived principally from the effort of the professional under a contract;

Income derived from exercise of personal skill by a sports person or an entertainer.

The income from personal exertion is defined under section 6 of the ITA Act 1936. According to this section, income from personal exertion means income that consists of earnings from salary, wages, fees, commission, pension, bonus, retiring allowances, superannuation allowances, gratuity received as an employee, income from a business carried on by a taxpayer either individually or as a partner and other income (Smith 2015). As can be seen from the definition of the income from personal service and income from personal exertion the concept of income under both the definition over lapse. In order to provide further clarity of the meaning of personal service income in Para 30 of the Taxation Ruling TR 2001/7 the incomes that are not be included as personal service income are stated. The incomes that are not to be included are:

Income derived from supply of goods or granting a right to the property;

Income generated from an asset;

Income generated by a business structure;

In section 6 of the ITA Act 1936 the proceeds from business carried on by the taxpayer individually or in partnership is also included in the income from personal exertion. Therefore, personal service business is also included within the meaning of personal exertion.  The section 87-15 of the ITA Act 1997 states the meaning of personal service business and provides a list of four personal service business tests (Agllias et al. 2015). If an individual satisfies these tests then the alienation measure of the PSI rule will not apply.

Income from personal exertion

In this case, Hilary has entered into an agreement with the daily terror to write her story of mountain climbing, as she is a professional mountain climber. The daily terror newspaper published the story and she received the payment. Then she sold the manuscripts and photographs to the Mitchell library and received payment of $5000 and $2000. This case requires ascertaining whether the payments received by Hilary are from personal exertion. In order to ascertain whether the incomes received are from personal service income it is important to evaluate each contract and job separately. It is also important to consider the terms of the agreement, the invoices and other factors in determining whether the income is personal service income (Richardson 2014). The general rule is that if the more than 50% of the contract amount is received due to the personal skill, effort and expertise then such income should be treated as income from personal service. In the given case, Hilary was paid $10000.00 by daily terror newspaper to write story about her life. The agreement required that she could not engage a ghostwriter so she had to put her own expertise and skills in writing the story. Therefore, as she made more than 50% effort in earning the money so it is an income from personal service. The Taxation Ruling 2001/7 states that there are certain incomes that are not to be included in the income from personal exertion this are income from supplying and selling goods, income earned from providing the right to use the property, income earned from assets etc. Therefore, the income received from selling manuscripts and photographs to Mitchell library should not be included in the income from personal exertion (Scaravilli 2014).

If the story was written for her personal satisfaction and later, it was decided to be sold, then such income is not included in the income from personal exertion. It is because income derived by a professional under a contract is included within the meaning of personal service income (Long 2016). In this case, there is no contract so the income should not be treated as income from personal exertion.

2. In Australia, an individual is required to pay tax on income received, dividend received, interest received, capital gains and others. As per the general rule, a gift is not taxed if it is not within the taxable income. In Australia, there is no gift tax that is required to be paid if the amount of gift is within the prescribed limit (Duff 2016). The limit is that the gift amount should not exceed $300000.00 for five financial years and in any one year; the gift amount should not exceed $100000.00. There are various case studies related to gifts that provide examples of non-taxable gifts:

• If gift is made to son there is no gift tax;
• If gift is made to sisters there is no gift tax;
• If large sum of money is brought from parents for purchasing property then there is no gift tax;
• If each son is given a house after parents sell the property then there is no gift tax;
• If money is given back to children as a gift then there is no gift tax;

The above-mentioned examples of gifts are from case studies of Scott V FCT (974), Hayes V FCT (1956) and Smith V FCT (1988). If the rules that are laid down by the governments are appropriately followed then large sum of money provided by the parents to the son are not liable to tax (Pomerleau and Cole 2015).

Calculation of net capital gain

The rules require that the loan provided should be documented properly. A deed of trust is required to be created by the parents and this should be registered with the local county. The parents and the child also required under the law to execute a promissory note. This will act as evidence that the amounts provided by the parents are a loan and not a gift. If the parent forgives the loan then such loan amount will be treated as gift. Then in such case the children has to declare the loan as income and is required to pay tax on that amount (King and Case 2015).  The maximum limit of gift amount that parents can give without incurring tax liability is $10000.00.

In this case, the parents have provided a short-term loan of $40000.00 and the son has agreed to repay the loan at the end of fifth year by paying an amount of $50000.00. The loan provided did not have any security, as there was no formal agreement between the parents and the son. The son along with an addition amount of 5% p.a on amount borrowed has repaid the loan.  As the loan amount is returned to the parents along with interest so it is not gift (Burkhauser 2015). The parent is liable to pay tax that has been received from the son. Therefore, it can be concluded that assessable income of the parents will include the interest paid by the son on amount borrowed as loan.

Calculation of capital Gain
Particulars	Using Indexation method	Using Discount method
Sale Proceeds	$                    800,000.00	$            800,000.00
Less:
Cost Base	$                    238,541.67	$            150,000.00
Capital Gain	$                    561,458.33	$            650,000.00
Discount (50%)	$                                      –	$            325,000.00
Net Capital Gain	$                    561,458.33	$            325,000.00

Calculation of Indexation factor
CPI for September 1990	68.7
CPI for September 1986	43.2
Indexation factor	1.590278

The CGT is applicable for assets acquired after 20 September 1985. If the asses is held for more than 12 months and the asset is acquired before 21 September 1999 then there are two methods of calculating capital gain or capital loss. These methods are Discount method or indexation method (Harding 2013). The taxpayer can choose any of the method for computing CGT. In this case, the net capital gain under discount method is less than indexation method so the taxpayer will choose discount method for calculating CGT.

b) If the property is sold to daughter then the Capital gain under indexation method is less than the discount method (Faccio and Xu 2015). Therefore, the taxpayer will choose indexation for calculating capital gain.

Calculation of capital Gain
Particulars	Using Indexation method	Using Discount method
Sale Proceeds	$                    200,000.00	$            200,000.00
Less:
Cost Base	$                    238,514.67	$            150,000.00
Capital Gain	$                    (38,514.67)	$               50,000.00
Discount (50%)	$                                      –	$               25,000.00
Net Capital Gain/(loss)	$                    (38,514.67)	$               25,000.00

The Discount method for calculating capital gain is not applicable to companies. Therefore, the capital in case of companies will be calculated using only indexation method.

Calculation of capital Gain
Particulars	Using Indexation method
Sale Proceeds	$                    800,000.00
Less:
Cost Base	$                    238,541.67
Capital Gain	$                    561,458.33

References

Agllias, K., Howard, A., Schubert, L. and Gray, M., 2015. Australian Workers’ Narratives about Emergency Relief and Employment Service Clients: Complex Issues, Simple Solutions. Australian Social Work, pp.1-14.

Burkhauser, R.V., Hahn, M.H. and Wilkins, R., 2015. Measuring top incomes using tax record data: A cautionary tale from Australia. The Journal of Economic Inequality, 13(2), pp.181-205.

Duff, D.G., 2016. Alternatives to the Gift and Estate Tax. Boston College Law Review, 57.

Faccio, M. and Xu, J., 2015. Taxes and capital structure. Journal of Financial and Quantitative Analysis, 50(03), pp.277-300.

Harding, M., 2013. Taxation of Dividend, Interest, and Capital Gain Income.

King, D. and Case, C., 2015. AN INTERNATIONAL INDIVIDUAL INCOME TAX COMPARSION: THE UNITED STATES, AUSTRALIA, AND UNITED KINGDOM. EDITORIAL REVIEW BOARD, p.77.

Long, B., 2016. A taxing issue: Reflections of Christian economists on tax reform in Australia. St Mark’s Review, (235), p.v.

Pomerleau, K. and Cole, A., 2015. International Tax Competitiveness Index 2015.

Richardson, D., 2014. The Taxation of Capital in Australia: Should it be Lower?. In Challenging the Orthodoxy (pp. 181-199). Springer Berlin Heidelberg.

Scaravilli, B., 2014. The ATO advising the advisers. Taxation in Australia,49(6), p.305.

Smith, J., 2015. Australian state income taxation: a historical perspective.Available at SSRN 2704627.

Woellner, R., Barkoczy, S., Murphy, S., Evans, C. and Pinto, D., 2016.Australian Taxation Law 2016. Oxford University Press.