Taxation Law: Understanding Assessable Income and Allowable Deductions

This article explains the concept of assessable income and allowable deductions under taxation law. It covers various sections of ITAA 1997 and relevant case laws. It also includes computation of tax liability for the year ended 30 June 2018 for a hypothetical taxpayer named Bruce Lee.

Running head: TAXATION LAW
Taxation Law
Name of the Student
Name of the University
Authors Note
Course ID

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Table of Contents
Answer to question 1:.................................................................................................................2
References:.................................................................................................................................9

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Answer to question 1:
According to the explanation of “section 6-5 of the ITAA 1997” an individual
taxpayer earning income from the business is termed as ordinary income (Barkoczy 2014).
To categorize the receipts from business in the form of ordinary income it is necessary to
understand whether a business activity is conducted by an individual taxpayer or whether the
business receipts are treated as normal earnings obtained from carrying on of business. As
explained under “section 995-1 of the ITAA 1997” the definition of business includes
conducting an act of profession or trade but not include an occupation in capacity of
employee.
Case facts obtained from Bruce scenario is based on determining tax liability of
receipts and deductibility of expenditure for the year ended 2018. To categorize the business
receipts as the ordinary income it is essential the receipts has nexus with the business
activities. Categorizing the receipts in the form of ordinary income from the business
involves two process (Coleman and Sadiq 2013). This includes determining whether the
taxpayer is performing the business or whether the considerations for the receipts that is
received originated from the normal proceeds of the business activity. Any form of receipts
obtained through the normal proceeds is regarded as income from ordinary concepts under
“section 6-5”.
As stated under the “section 6-1” an individual taxpayer that obtains receipts from the
employment and personal services would be treated for the income tax purpose (Grange,
Jover-Ledesma and Maydew 2014). As understood from the case facts of Bruce, he obtained
business receipts amounting to $340,000. The amount represents ordinary income from the
business activities and would be considered as the assessable income. “Section 6-20 of the
ITAA 1997” is associated with the exempted income. As obvious Bruce reports income from

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the military service. The amount will be treated as the exempted income under “section 6-20
of the ITAA 1997”.
An individual taxpayer that derives income with the help of personal service will be
accounted as ordinary income under the ordinary concepts of “section 6-5”. The taxation
commissioner in “FCT v Kelly (1985)” held that nexus is not impacted for any one-off or
lump sum receipts and also not relevant for those that pays (James 2014). As defined under
“section 6-5” taxpayer obtaining income from the investment property is regarded as the
ordinary income.
Quoting the judgement in “Black v FCT (1984)” periodic or regular receipts is
categorized as ordinary income. Gains that are periodic or regular will be treated as the
income under ordinary concepts (Jover-Ledesma 2014). In the later part of the case, Bruce
reports rental receipts obtained during the income year from the investment property. The
amount of $10,000 would be treated as taxable rental receipts obtained from investment
property. The sum constitute income under the ordinary concepts of “section 6-5”.
The Australian Taxation Office explains that irrelevant of the fact whether a person is
employed in one or greater than occupation or working either full or part-time, any income
from such employment would attract tax liability. As held in “Smith v FCT (1997)” where an
individual taxpayer obtains income for completing the tertiary services would be treated as
ordinary income under “section 15-2 of the ITAA 1997” (Kenny 2013). Similarly, in the case
of Bruce, he reports a receipts of 34,000 from the part-time lecturing in University. The
receipt is an income from employment and would be treated as ordinary income under
“section 15-2”.
According to the “section 44 (1)” income obtained from the dividend should be
included in the tax return. Dividends derived by the taxpayer from the public listed

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companies for the shares that are publicly traded should be included in the taxable income
(Krever 2013). Certain dividends carry franking credits for which a tax offset is available to a
taxpayer at the time of filing tax return. With reference to “section 44 (1)” receipts of
dividend by Bruce is a constituent of taxable incomes while the franking the credits can be
used for claiming the tax offset by Bruce as it would help in lowering the tax payable amount.
Income earned by the Australian resident in the form of bank deposit interest must be
accounted as the taxable income (Morgan, Mortimer and Pinto 2013). A taxpayer is required
to declare such income in his taxable return. Bruce during the income year earned income
from Bank deposit that amounted to $5,000. The amount has the character of income and
constitute taxable income under the ordinary concepts of “section 6-5”.
The main provision of “section 8-1” enables the taxpayer with the general deduction
for the expenditure that are incurred in gaining the assessable. “Section 8-1” general
deduction has the potential to implement on any taxpayer (Sadiq 2014). A taxpayer is
allowed to claim specific deductions under the “section 8-5 of the ITAA 1997”. The
provision of “section 8-1” explains that a taxpayer is prohibited from claiming deductions if
the expenses are private or domestic in nature and fails meet the eligibility conditions of
“section 8-1 (2)(b)”.
Bruce incurs expenses on office rent, employee salary and cleaning contractor. The
law court in “Ronpibon Tin NL v FCT (1949)” held that for an expense to be allowed for
deductions must be an outgoing that is incurred in gaining or generating the assessable
income (Woellner et al. 2014). The expenses should be relevant and incidental to that end.
The expenses on office rent, employee salary and cleaning contractor are incurred by Bruce is
an outgoing which is incurred in gaining or producing the taxable income. Bruce can claim an
allowable deduction under the positive limbs of “section 8-1 of the ITAA 1997” as these are

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incurred inside the initial part of subsection which is sufficient as well as necessary in
producing the taxable income.
As defined by the Australian Taxation Office, a taxpayer that incurs expenses in
purchase of business tools or equipment or any form of assets which has sufficient nexus in
generating assessable income, then the expenses would be allowed as deductions (Pinto
2013). Furthermore, the explanation of Australian Taxation Office includes that a business
item or equipment having a cost base of $300 or less can be immediately claimed for
deductions. Bruce reports a purchase of calculator for business use. The cost base of
calculator was less than $300 and the same can be immediately claimed for deductions since
the has sufficient nexus in generating assessable income.
The Australian Taxation Office explains that meals and entertainment to clients are
considered as entertainment expenditure for business purpose (Braithwaite 2017). Equivalent
to such explanation Bruce incurs meal and entertainment on his client. The meal and
entertainment cost incurred on client by Bruce would be allowed as business entertainment
deductions. Conversely Bruce also report the meal and entertainment expenses on himself. A
part of the meal and entertainment expenses will not be allowed for deductions since it is
personal expenses and non-deductible under the positive limbs of “section 8-1”.
As stated under second negative limb of “section 8-1 (2)(b)” any outgoings of
domestic or private type is not deductible since it fails to meet the criteria of positive limbs
and non-deductible under second negative limbs (Robin 2017). The court in “Lunney v FCT
(1958)” explains that it is necessary to look into the essential character of losses or outgoings
whether it forms the vital prerequisite in derivation of taxable income. Expenses incurred on
travel between home and individual place of work is non-deductible. The court in “Payne v
FCT (2001)” denied the taxpayer from obtaining deductions for the cost occurred in

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travelling amid his home and usual workplace. Bruce incurs cost on traveling to and from
work. The expenses will not be allowed for deductions under “section 8-1” since it constitute
travel between two unrelated place of work.
Expenses that are domestic or capital in nature is prohibited from deduction under
negative limbs of “section 8-1 (2)” as there is no nexus in the derivation of assessable
income. Bruce has occurred expenses on rates and electricity for family home (Burton 2017).
The expenses on rates and electricity for family home is not allowable for deductions since
the expenses are domestic in nature which is prohibited from deduction under negative limbs
of “section 8-1 (2)” as there is no nexus in the derivation of assessable income.
As per the “section 8-5 of the ITAA 1997” a taxpayer is permitted to claim an
allowable specific deduction. As defined in “section 25-5 of the ITAA 1997” expenses that
are related to tax is allowed for deductions (White and Townsend 2018). Certain costs such as
managing tax affairs, payments to general interest are allowed for specific deductions under
the “section 25-5”. An expense of $1,000 was incurred by Bruce on the tax agent fees for
preparing the tax returns of 2016/17. The expenses qualify specific deductions under
“section 25-5”.
A taxpayer is allowed to claim deductions for the expenses that is incurred on the
rental property till the period when the property is rented out or open for rent. Bruce reports
expenses an expense of $2000 on investment property. Bruce additionally reported an
expense of $15,000 as the interest on loan for acquiring the property. Denoting the reference
in “Amalgamated Zinc Ltd v FCT (1935)” a taxpayer is allowed to claim an immediate
deduction for expenses such as interest on loan because they are incurred in gaining or
producing the assessable income (Swan 2018). Similarly, Bruce is allowed to claim

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deductions under “section 8-1” for the above stated expenses on rental property as they are
occurred in producing the rental income.
Denoting the explanation in “Section 25-10 of the ITAA 1997” costs that are
occurred for notional repair is non-allowable as deductions. Citing the judgement in “Inland
Revenue Commissioners v Shipping Co Ltd (1923)” a deductions was non-allowable to the
taxpayer for the cost incurred on initial repair of the investment property because these
expenses are treated as capital expenses which is not allowed for deductions (Woellner et al.,
2014). Evidences from the case suggest that Bruce reports costs on repainting the investment
property which is initially bought by him. The cost of repainting the investment property
amounts to initial repair of capital nature. The expenses are initial repair that is occurred in
remedying the defects or in other words, it is a deterioration that was present in the property
on the date when Bruce acquired the investment property. The repainting expenses are non-
deductible under “Section 25-10 of the ITAA 1997”.
As stated in “Section 25-10” a taxpayer is permitted to claim deductions for the
expenses that is incurred in replacing a portion of property which is damaged by storm
(Morgan, Mortimer and Pinto 2013). A sum of $1,000 was incurred by Bruce for replacing
the tiles on the roof of the investment property since it was damaged by storm. Under
“section 25-10” the taxpayer can claim permissible deductions for expenses that is incurred
in replacing the tiles of roof since the rental property was held in derivation of the taxable
income.
Under “section 25-10 (3) of the ITAA 1997” a taxpayer is denied deductions for
expenses that are capital in nature (Coleman and Sadiq 2013). The section prohibits the
taxpayer from claiming deductions for repairs that involves improvement of substantial
nature. Expenses incurred in addition or alteration in the property cannot be allowed for

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deductions under “section 25-10 (3) of the ITAA 1997”. Bruce incurs an expense of $15,000
for extending the bathroom in the investment property. The costs that is incurred in extending
the bathroom of the investment property is characterised as significant improvement. No
deduction for cost of extending the bathroom will be allowed under “section 25-10 (3)” to
Bruce.
Particulars Amount ($) Amount ($)
Assessable Income
Professional Legal Fees 340000
Salary received from part time lecturing in University 34000
Australian Sourced Interest Income on Bank Deposit 5000
Australian sourced rental income 10000
Austrlian Sourced dividend Income
Fully franked (Net) 4900
Gross up for franking credits 2100 7000
Total Assessable Income 396000
Expenses Eligible as Deductions
Office Rent 14000
Payment to cleaning contractor 10000
Salary paid to employee secretary 50000
Purchase of new calculator 290
Cost of meals and entertainment for clients 1400
Tax agent fees for preparing tax returns 1000
Rates on investment property 2000
Interest on Loan to acquire investment property 15000
Cost of replacing roof damaged in storm 1000
Total Allowable deductions 94690
Total Taxable Income 301310
Tax on taxable income 114847.7
Medicare levy 6026.2
Less: Franking Credit 2100
Less: PAYG Witholding 6000
Less: Carry forward loss 12000
Add: Medicare Levy Surcharge (1.5%) 4519.65
Total Tax Payable 105293.55
Computation of Tax Liability
In the Books of Bruce Lee
For the Year ended 30 June 2018

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As understood from the above stated computation the total amount of taxable income
for Bruce during the year ended 30 June 2018 stands $301,310. Bruce reported that he does
not have private health insurance therefore a Medicare levy surcharge of 1.5% will be
applicable on his assessable income. He also bought forward a loss of $12,000 from the
previous year. The loss can be used for setoff purpose which can help in reducing the tax
liability. Hence, the total tax payable for Bruce stands $105,293.55 for the income year ended
30 June 2018.

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References:
Barkoczy, S. 2014. Foundations of taxation law.
Braithwaite, V., 2017. Taxing democracy: Understanding tax avoidance and evasion.
Routledge.
Burton, M., 2017. A Review of Judicial References to the Dictum of Jordan CJ, Expressed in
Scott v. Commissioner of Taxation, in Elaborating the Meaning of Income for the Purposes
of the Australian Income Tax. J. Austl. Tax'n, 19, p.50.
Coleman, C. and Sadiq, K. 2013. Principles of taxation law.
Grange, J., Jover-Ledesma, G. and Maydew, G. 2014. principles of business taxation.
James, S. 2014. The economics of taxation.
Jover-Ledesma, G. 2014. Principles of business taxation 2015. [Place of publication not
identified]: Cch Incorporated.
Kenny, P. 2013. Australian tax. Chatswood, N.S.W.: LexisNexis Butterworths.
Krever, R. 2013. Australian taxation law cases. Pyrmont, N.S.W.: Thomson Reuters.
Morgan, A., Mortimer, C. and Pinto, D. 2013. A practical introduction to Australian taxation
law. North Ryde [N.S.W.]: CCH Australia.
Pinto, D., 2013. State taxes. In Australian Taxation Law (pp. 1763-1762). CCH Australia
Limited.
Robin, H., 2017. Australian taxation law 2017. Oxford University Press.
Sadiq, K. 2014. Principles of taxation law.
Swan, P.L., 2018. Investment, the Corporate Tax Rate, and the Pricing of Franking Credits.

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White, J. and Townsend, A., 2018. Deductibility of employee travel expenses: The ATO's
guidance. Taxation in Australia, 52(11), p.608.
Woellner, R., Barkoczy, S., Murphy, S., Evans, C. and Pinto, D. 2014. Australian taxation
law select.