MLC 703 : Principles of Income Tax Law

Added on -2020-02-18

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Principles of Income
Tax
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PRINCIPLES OF INCOME TAX
PART A
Question 1A
Compensation of $ 50,000
It is apparent that Melissa has an employment contract which entitles her to a performance
based bonus whose higher limit is $ 15,000. As a result, this contractual right that Melissa has
can be equated to the presence of the right to compensation. As per the relevant details, it is
apparent that the employer is willing to pay a sum of $ 50,000 for the right to give up the
bonus which would be enacted by suitably modifying the existing contract to delete bonus
provision. It is apparent that giving up this right can be equated to giving up of an asset for a
total of $ 50,000. This is in accordance with the tax ruling TR 95/351.
With regards to ascertaining whether the concerned receipt is income or capital, the
underlying circumstances and the cause for which the receipt has been extended needs to be
taken into consideration as highlighted in the FC of T v. Slaven 84 ATC 4077; (1984) 15
ATR 242. It is apparent that in the given case as the compensation has been extending for
giving up a right which essentially constitutes an asset, hence the payment derived therein
would be considered as capital. Thus $ 50,000 compensation received by Melissa would not
be termed as either ordinary or statutory income.
Compensation of $ 4,000
In accordance with s. 6(5) ITAA 1997, ordinary income may be defined as income which
tends to arise on account of ordinary concepts2. One of the key categories of ordinary income
is employment income and related allowances. Typically these allowances are of regular
nature and received by the taxpayer irrespective of any expenses or cost being incurred. In the
given case, payment is being extended for ensuring that all professional employees at head
office including Melissa do not utter any negative comment to the media3. Hence, this
compensation is not being derived on the basis of her services offered to the organisation.
Instead, these are being extended so as to limit the freedom and right to opinion about the
employer to the media. Thus, keeping in mind the purpose, the circumstance and nature of
ayment, in accordance with the FC of T v. Slaven4 case, it is fair to conclude that the payment
of $ 4,000 would not be treated as ordinary income under s.6(5) for Melissa.
Question 1B
1ATO, ‘Taxation Ruling TR 95/35’,
ATO (online), 29 November 2006
http://law.ato.gov.au/atolaw/view.htm?locid=txr/tr9535/nat/ato
2 Barkoczy, Stephen,
Foundation of Taxation Law 2015, (North Ryde, CCH, 2015)
3 Gilders, Frank, et. al.,
Understanding taxation law 2015. (LexisNexis, Butterworths 2015)
4 FC of T v. Slaven 84 ATC 4077; (1984) 15 ATR 242 case
PRINCIPLES OF INCOME TAX
For the given question, there are two aspects namely to determine the amount of capital gains
based on the given information and also to determine if it is possible for Julie to take
advantage of the CGT concessions that the government offers for small businesses.
Qualification as a small business
In order to qualify for CGT concessions available to a small business, one of the following
three conditions must be satisfied (section 152-10, ITAA 1997)5.
The annual turnover of the small business must be less than $ 2 million
The concerned asset is not actively used but is passively associated for carrying on
business by a small business which happens to be an affiliate or a related entity
The cumulative value of the net CGT assets that the given individual holds along with
the related entities must not exceed $ 6 million at the time of the capital event actually
taking place. The CGT assets for the net asset test would not include the assets that
are used by the taxpayer and the related entities for their personal enjoyment or use.
Further, the house to the extent not used for production of income would be excluded
from this test. Besides, the superannuation funds would also be excluded.
The eligibility criteria has been highlighted and now based on the information provided in the
case, it needs to be ascertained if any of the three conditions highlighted above are satisfied
or not.
It is known that the annual turnover of the factory owned by Julie is $ 3 million and
hence it fails to satisfy the turnover condition.
Also, it is apparent that the active asset which is the machine is not used by anyone
else but by Julie herself and thus the passive asset usage test is also not satisfied in the
given case.
The net CGT asset held by Julie at the time of disposal of the factory are highlighted
below.
Factory along with the business goodwill = $ 1.5 million + $0.5 million = $ 2 million
Main residence in Altona (Not Included) = $ 0
Investment property (Not for personal enjoyment or use, hence included) = 700000-
600000 = $100,000 or $ 0.1 million
Superannuation amount (Not included) = $ 0
Holiday house in Ballart (For personal use only, hence not included) = $ 0
Holiday unit on Gold Coast (Majorly for personal use only but three weeks during
Christmas used to derive income) = (3/53)*250000 = $ 14,151 or $ 0.014 million
Holding interest in SHR Pty Ltd = 42% of 1 million = $ 0.42 million
Therefore net assets for Julie as on May 15, 2017 = 2+ 0.1+0.014 +0.42 = $ 2.534
million
5 ICAI, ‘Small business CGT concessions –current issues’,
CPD Live (online), 28 August 2012
https://www.cpdlive.com/charteredaccountants/seminarNotes/LiveOne-
SmallBusinessCGTConcessionsTechPaper.pdf , p.6

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