The Tax Office’s latest crackdown on aggressive tax schemes, announced this month, underlines just how gullible investors and business owners can become when promised a large unwarranted tax break.
Warning signs of possibly dodgy tax schemes – as outlined by tax commissioner Michael D’Ascenzo – include spruikers urging their targets to sign up quickly and/or to sign confidentiality agreements in an attempt to prevent you from gaining professional advice.
Extremely complex investment arrangements and the absence of a Tax Office product ruling should act as red flag to encourage investors to delve closer before signing anything or handing over any money.
The Tax Office has collected a series of lines sometimes used by the promoters of dodgy schemes – some so blatant you wonder how anyone could be sucked in.
Such lines include: “There are no risks – we guarantee the returns”; “You don’t need credit or asset checks – we’ll lend you the money”; “Even if the investment doesn’t go ahead, you’ll still make money”; and “There’s no need to check with the ATO to see if it’s okay”.
And the lines composed for the gullible keep coming. Here’s a few more: “A top lawyer or accountant has looked at the investment and thinks it’s great”; “It’s complex but you don’t need to understand it”; “Trust us, the ATO is okay with it”; and “You can run your business through an offshore company”.
Some schemes are based on a claim to somehow transform fully taxable income to capital gains in an attempt to qualify for the 50% CGT concession. Others claim access to franking credits for artificial exposure to shares and some offer non-arm’s-length financing with inflated interest rates in an attempt to magnify tax benefits.
And certain schemes targeting small businesses falsely represent employees as contractors. Such arrangements are designed to either help the business avoid its tax and super obligations to employees or to make employees eligible for unwarranted tax benefits.
Participants in questionably tax schemes are typically being too smart for their own good – particularly when there are simple ways to legitimately minimise or even eliminate tax in certain circumstances, says tax accountant Mike Bannon.
Bannon, senior partner with accountants Duesburys Nexia in Canberra, says that investors involved in dodgy tax schemes face the strong likelihood that the Tax Office using increasingly sophisticated methods will “track you down and impose a massive tax bill”. The ATO will not only demand unpaid taxes but also interest and hefty penalties.
Most of the taxpayers who have sought advice from Bannon after being pursued by the Tax Office for their involvement in tax-avoidance or tax-evasion schemes have reached the same conclusion: “I wish I had never done it”.
Here are six no-frills ways to significantly reduce or wipe out a tax bill without breaking a single law or incurring the tax commissioner’s wrath:
One of the great benefits of investing in stocks listed on the Australian market is the franking credit system – providing shareholders with a tax credit for corporate tax paid on company profits.
Take the example of a retired couple over 55 who jointly own a $1 million share portfolio, producing a fully franked yield of 5%. The grossed-up dividend (which takes into account the value of the franking credits) is 7.14%.
This means that in the first year, the portfolio would produce combined cash dividends of $50,000 plus $21,428 in franking credits.
As the couple in this case study has no other taxable income (their superannuation pensions are not included in their taxable income), they will receive a cash refund totalling about $14,000 for excess franking credits. (Excess franking credits occur when franking credits exceed the amount of tax payable.)
What if the same $1 million portfolio were held in, say, a self-managed super fund whose assets support the payment of superannuation pensions to each spouse?
The key to the tax position is that superannuation assets backing the payment of a pension are not taxable. If the fund – for the sake of simplicity in this example – held no other assets apart from the $1 million, fully franked portfolio, it would receive a cash refund of all $21,428 for excess franking credits.
Under superannuation law, a person can take a transition-to-retirement pension from age 55, and their super assets supporting the pension immediately gain this tax-free treatment. And if the members receiving the pension are over 60, the pension payments are tax-free in their hands.
One of the simplest ways to reduce tax is to hold non-superannuation investments jointly or in the name of a lower-earning spouse. Another way to split income to reduce tax is to setup a discretionary trust to distribute income and capital gains to adult family members with low tax rates.
Be warned, individuals under 18 are no longer be eligible for the low-income tax offset on their so-called unearned income (such as dividends, interest and rent). This means that unearned income paid to children – perhaps through family trusts – is subject to the full penalty rates applying to minors.
This is the last tax year before the standard cap for concessional contributions by members over 50 is halved from $50,000 to the indexed $25,000 cap that already applies to other fund members. (Members over 50 with low super savings will not have their concessional caps halved.)
Concessional contributions comprise superannuation guarantee and salary-sacrificed contributions as well as personally-deductible contributions by the self-employed and eligible investors.
The immediate tax benefits of maximising salary-sacrificed and personally-deductible are that the amounts within the annual contribution caps are taxed at 15% upon entering the concessionally-taxed super system – instead of marginal tax rates.
The strategy of taking a transition-to-retirement pension while simultaneously making salary-sacrificed contributions potentially can produce excellent tax breaks that should not be ignored. (As already discussed, members must be over 55 to be eligible for this super pension.)
The strategy has four main tax advantages. Salary-sacrificed contributions are taxed at 15%, not marginal tax rates; the taxable portion of the pension is taxed at marginal rates with a rebate of up to 15% to age 60; and the pension is tax-free from age 60. And most importantly for members with larger balances is that super fund assets backing the pension payments are tax-exempt.
Further, amounts taken as a transition-to-retirement pension – a set minimum must be taken each year – can be recontributed to super as non-concessional contributions, which have an annual contribution cap of $150,000.
The making of non-concessional contributions will help minimise tax on any of your super death benefits eventually paid to non-dependants including financially independent adult children. And, of course, large contributions will replenish or boost super balances.
These concessions together with the standard discount CGT discount for assets held at least 12 months means that owners of eligible small businesses can potentially greatly reduce or wipe-out capital gains tax upon the sale of their enterprises – even if there have been multi-million-dollar gains.
Astute business owners keep a close watch on whether their businesses remain eligible for the small business CGT concessions and gain a full understanding of how the various concessions operate. It is possible to adopt a series of strategies so a business remains eligible for the concessions as long as possible.
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