As you read this, many small businesses may be struggling to survive. Their viability as a business is under threat. Economic times are tough and customers are watching their spending carefully.
To some extent, none of this is new. Business has its cycles – this just happens to be a tough one. Business costs such as trading stock, electricity, wages, insurance, etc are rising and revenues in many cases are falling.
Tax of course is also a cost of doing business. SMEs must pay their tax bills on time and also the 9% compulsory superannuation for their employees.
In recent years, as the GFC took hold, the ATO adopted a “helping hand” attitude to businesses, eg. in the form of flexible payment arrangements for tax debts, deferral for payment of activity statement debts, interest-free terms, etc.
The ATO also recognises the important part SMEs play in the economy. In Australia, there are 2.8 million SMEs with annual turnover up to $2 million. They employ about 20% of the Australian workforce and as employers they withhold and pay about $14 billion in Pay As You Go withholding tax. They are therefore a significant part of the Australian economy – both in a business sense and in their contribution to overall tax revenues.
It might surprise some to know that the ATO works with a range of organisations to ensure small businesses get the assistance they need on tax matters. For instance, the ATO has entered into arrangements with support organisations such as COSBOA, BeyondBlue and LifeLine to identify and refer to the ATO their small business clients in need of assistance. The assistance offered includes the possibility of payment arrangements for outstanding debts. In this way, the ATO says it has assisted 73 small business owners to work through their tax issues, involving multiple year lodgments, some going back to the 2004 financial year.
To ensure a “fair and consistent approach” to assessing business viability, the ATO has developed an assessment tool to maximise what the Tax Commissioner calls “a rigorous evidence-based approach”. It operates similarly to the models used by banks in making decisions on the provision of finance or credit. And as we all know, the ATO also uses its small business performance benchmarks to help with tax compliance.
Using the viability assessment tool, the ATO says it can better distinguish between businesses that may be undergoing short-term financial difficulties and businesses that may not be viable in the medium- to longer-term. The tool uses the financial information of the business and/or the individual for the current and previous years to provide a comprehensive assessment of the taxpayer’s viability and repayment capacity, in particular, the ability of the business and/or the individual to both pay outstanding tax debts and meet ongoing commitments.
In many cases to date, the Commissioner said the ATO’s next step after assessing the viability of a business, and any other relevant factors, has been to grant a payment arrangement, usually subject to interest. However, where the ATO considers there are “clear indications” that a business is not viable and does not have the capacity to repay its debts and meet ongoing commitments, it advises the business of this and suggests they seek professional advice as to their options.
The ATO says its assessment of the viability of a business involves considering a range of indicators covering gross margin, cashflow, asset/liability position (working capital), liquidity, debtor/creditor position and the availability of funding.
Where a business is trading while insolvent, the ATO has a responsibility under the law to take action to address this, for reasons including the need to protect the revenue and to protect others against unfair competition. Where there is unpaid superannuation, the ATO believes that taking insolvency or bankruptcy action early can help protect employees’ retirement benefits. In the event of a business being wound up, Superannuation Guarantee Charge ranks equally with other employee entitlements and is paid ahead of ordinary unsecured tax debts, such as PAYG, GST and income tax. When the ATO receives any monies in the winding-up of a company, it says they are allocated first to the outstanding super.
In the current year, the ATO says it will continue to offer payment arrangements to businesses that have a “good compliance history” and who are able to “demonstrate their ongoing viability and capacity to pay”.
The ATO says small businesses may be eligible for an interest-free payment arrangement if the business:
For other viable businesses, the ATO says payment arrangements are available for tax debts of less than $25,000. In cases where taxpayers are experiencing serious hardship, the ATO says it can provide a release from the payment of various tax liabilities.
While the ATO is reportedly taking a tougher stance in collecting outstanding tax debts, it does look carefully at a business before taking action.
In a recent case, the Commissioner said a construction company had a large activity statement debt of around $400,000. On the face of it, the company was in a bad situation. Its 2010 profit was considerably lower than in previous years, due to the write-off of a very large bad debt for a major client, and it was unable to borrow funds to pay the tax.
The ATO had initial concerns about the viability of the business, but worked with the business and conducted a detailed viability assessment, which included gathering a wide range of information about the company, some supplied by the taxpayer and some the ATO gathered itself. The conclusions of the assessment showed the company had a strong and reliable cashflow that was very likely to pull it through.
With this information, the ATO negotiated a mutually acceptable payment arrangement at base interest that saw the debt cleared in the shortest possible timeframe.
However, the Tax Commissioner warned that a poor business practice the ATO is beginning to see more often is where new contractors enter the tax system as a business and fail to budget properly by not putting aside money for their tax bills. These are often young tradespeople who find themselves in the situation where they lodge their first return some 18 months after commencing their business and receive a tax bill for their first year of operation which they cannot pay. Around the same time, they receive a Pay As You Go instalment notice which they also cannot pay. Sometimes, the ATO says it finds they are not bona fide contractors in the first place.
In another case, the ATO examined the affairs of a gift shop business (a husband and wife in partnership) in Western Australia after its returns showed that the business had performance (ie. cost of goods sold) outside the Small Business Performance benchmarks. Its cost of goods sold to sales ratio was 73% compared to the industry benchmark of 50% to 58%.
From the information provided in the review, the ATO said it determined that at the end of trading each day, the taxpayer undertook a number of basic record-keeping tasks, including counting the contents of the cash register, reconciling the daily till summaries, and at the end of each month, the taxpayer reconciled the daily reconciliation sheets with the bank statements.
Overall, the taxpayer explained that the gift shop was located in a seaside tourist area and relied heavily on the seasonal tourist trade to generate the majority of their income. They had bought stock expecting a normal season, but in the 2009 tax year, the tourist season was heavily affected by the economic downturn and the gift shop was forced to match the discounts being offered by other gift shops in the area to try to generate trade. This explanation was supported by business records and accepted by the ATO.
In another case, the ATO increased the reported business income of a butcher by over $250,000 after he could not demonstrate how the business recorded its sales. The cost of goods sold to sales ratio was well above the industry norm. The record-keeping practices of the business were poor and it did not keep cash register rolls or point of sale printouts.
The ATO says it is strengthening its online services, guidance and tools to assist small businesses in improving their efficiency. Later this year, the ATO plans to add a GST property calculator to assist businesses to determine if a property is a taxable supply and the amount of GST which needs to be paid.
In the near future, the ATO also plans to implement online services to automate change of address and financial details for taxpayers. A service to provide taxpayers with a status update on the processing of returns is also planned.
The Commissioner also noted other compliance programs such as data-matching Government payments with businesses and online trading activities by individuals. The ATO receives data on overseas funds transfers and investigates cases where businesses appear to be sending more money overseas than could be explained by the reported turnover. In relation to online trading activities, the Commissioner said 70 cases are currently subject to ATO compliance action for either failing to lodge income tax returns or not reporting online sales.
It’s not easy running a small business. When a business gets into financial trouble, and there is a risk tax debts will not be met, the business owner should seek immediate help and advice – and that may be from the business accountant and/or the Tax Office.
While it might seem draconian to some that the ATO can decide on the viability of a business, that doesn’t automatically mean it will call in the liquidators. All businesses must abide by all the relevant laws, including tax laws. Basics such as good record-keeping should never be underestimated.
Terry Hayes is the senior tax writer at Thomson Reuters, a leading Australian provider of tax, accounting and legal information solutions . 
For more Terry Hayes features, click here.
Smart Company is the leading online publication in Australia for free news, information and resources catering to Australia’s entrepreneurs, small and medium business owners and business managers.
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