Taxation Law: Starting a new business and determination of tax liability

This article discusses the taxation laws for starting a new business and determination of tax liability for assets like car, vacant land, shares, antique, and business quota in Australia. It covers the three tests for determining tax residency, computation of taxable income for sale of assets, and capital gain tax events. The article provides expert guidance for students and professionals studying taxation law in Australia.

TAXATION LAW
PART 1- Starting a new business
Elwood has started a new business venture. He has started an international shipping company
based in Singapore. There are 4 directors:
• Two are located in Singapore
• One is located in Monaco, and
• Elwood.
All the director’s meetings are held in Singapore and the annual general meeting is held in
Monaco. The company’s main business is shipping containers between Sydney and Africa,
via Singapore. The contracts are signed in Sydney on behalf of the company by Elwood.
The company has a rotating Managing Director with the role changing every three months
between the directors. The shares are held only by the directors and are held in equal
proportion.
Elwood would like to know:
Is the company a resident of Australia for tax purposes?
Answer-1
ISSUE
Elwood has started a business outside Australia. The business primarily deals with
international shipping and has 4 directors out of which three reside outside Australia and one
in Australia i.e Mr. Elwood himself. Further, the board meeting of the company take place
outside Australia and AGM in Monaco. The company is facing issue regarding recognition of
residency for tax purpose in Australia.
Rules
In this regard, reference may be had to section 6-5(2) of Australian Income Tax Assessment
Act, 1997 where in it has been stated that for a company resident in Australia in terms of
section
Section 6(1) para b shall pay tax on their pan world income in Australia. Further, in terms of
Section 6(1) para (b) three tests have been defined for determining tax residency.
(Commonwealth Consolidated Acts, n.d.) The three tests are:
(a) Incorporation Test;
(b) Central Management and Control Test;
(c) Controlling Shareholder Test.
If any of the aforesaid test are satisfied than the company shall be considered tax resident of
Australia.

Incorporation Test
For a company to satisfy incorporation test, the company must be incorporated in Australia.
Central Management and Control Test
For a company to satisfy this test, the company must carry on business in Australia and has
its management and control situated in Australia i.e. situs of all major decision undertaken for
the company by its directors shall be in Australia or the major decision are resident of
Australia. Further, the place of registered offices and area where real business activities are
undertaken shall lay a decisive role in determining residency. Further, it shall be pertinent to
note that both the conditions shall be satisfied simultaneously to be classified as resident in
Australia (Common wealth of Australia, n.d.).
Controlling Shareholder Test
For a company to satisfy this test, the company must carry on its operations in Australia and
the principal shareholders of the company carrying major voting rights are resident in
Australia. It shall be pertinent to note that both conditions must satisfy simultaneously for a
company to be declared resident in Australia. (Common wealth of Australia, n.d.)
Analysis
In the present circumstance, the company is incorporated in Singapore, hence the said test is
failed. Further, the company consist of 4 directors out of which three are non –resident
directors and majority of board meeting of the company takes place in Monaco which is
outside Australia. However, majority of the operations of the company are carried overseas
between Sydney and Africa. Since the majority of the meeting and the director of the
companies are outside Australia, the company fails Central Management Test. (Common
wealth of Australia, n.d.)
Further, w.r.t the third test Mr. Elwood has started the business and is assumed that he is the
major shareholder of the company and he is tax resident of Australia. Further, it shall be
pertinent to note that the business of the company is in Australia as majority of the contracts
of the company are signed in Australia and in substance taken in Australia.
Conclusion
The company is tax resident of Australia in terms of third test i.e. Shareholding Test and
accordingly pan income of the company shall be taxable in terms of Section 6 of Income Tax
Assessment Act, 1997.
Part 2- Sale of Assets and determination of tax liability
Question 1
A car he bought 3 years ago for $65 000 and was used solely for his personal use was sold for
$25 000. The book value of the car is $27500
Answer

In the said case, Elwood has sold his car used for personal use. The said car has not been used
for official purpose. Further, the same shall not be chargeable to tax as the asset quality for
personal asset and personal asset are not chargeable to Capital Gain Tax in Australia, if the
acquisition cost of the same is less than AUD 10,000/- or less in terms of Section 118-10(3)
of Australian Income Tax Assessment Act,1997.
Thus, the gained earned on disposition shall be chargeable to tax interms of Section 102-20 of
Australian Income Tax Assessment Act, 1997. And the tax amount shall be computed by
discounting method in terms of Section 115-A of ITAA, 1997. Thus, the taxable income of
the Elwood shall be:
Sl. No. Particulars Amount Amount
1 Sales consideration 25000
2 Book Value 27500
3 Cost of Acquisition 65000
4 Decline in Value 37500
5 Non Taxable Decline 37500
6 Cost to be considered 27500
7 Capital Loss -2500
Question 2
Vacant land sold in June 2018 for $200,000 that had been bought by him on 21/3/1984 for
$20,000. This is being paid in 10 instalments of $20 000, however the purchaser has declared
bankruptcy and the last two instalments due next financial year will not be paid.
Answer 2
In the said case land has been acquired before 20th September, 1985 and shall not be eligible
for taxation under Capital Gain Taxation regime. Further, the same shall be exempt from
taxability.
Question 3
10,000 shares in ABC Ltd sold in February 2017 for a total sale price of $175,000. Elwood
bought all the shares for long term investment purposes during November and December
1994 at a total cost of $80,000.
Answer 3
In the said case, Elwood has purchased certain shares in November and December, 1994 and
disposed off the same in the current year leading to rise of a Capital Gain Tax event in terms
of Section 102-20 and Section 104-10(1) of ITAA, 1997. Further, the holding period of the
shares exceeded 1 year. Thus, the provisions of subdivision 115-A of ITAA, 1997 shall be
applicable as the disposition has been made by an individual with holding period greater than

1 year and the purchase of such asset was made after 20th September,1985. Accordingly, the
taxable income has been worked out here-in-below:
Computation of Taxable Income
Sl. No. Particulars Amount Amount
1 Sales consideration 175000
2 Cost of Acquistion 80000
3 Cost to be considered 80000
4 Capital Gain 95000
5 Discount 47500
6 Taxable Capital Gain 47500
Question 4
An antique sold on 1 May 2018 for $15,000. Elwood bought the antique on 31 December
1989 at a cost of $5,000 for personal reasons.
Answer 4
In terms of Section 118.10 of Income Tax Assessment Act, 1997 disposition of collectibles
shall not be liable to capital gain or loss if the cost element of such base does not exceed
AUD 500 at the time of purchase. Further, it is stated that if the asset is used both for private
and official use then appropriate apportionment should be made. (Commonwealth
Consolidated Acts, n.d.)
In the current scenario, antique sold on 1st May qualifies for collectible. However, exemption
shall not be provided as the cost of acquisition of such asset exceed AUD 500 and disposition
of the same shall trigger capital gain tax liability in terms of Section 102-20 and Section 104-
10(1) of ITAA, 1997. Further, the holding period of the collectible exceeded 1 year. Thus, the
provisions of subdivision 115-A of ITAA, 1997 shall be applicable as the disposition has
been made by an individual with holding period greater than 1 year and the purchase of such
asset was made after 20th September,1985.Accordingly, the taxable income has been worked
out here-in-below:
Computation of Taxable Income
Sl. No. Particulars Amount Amount
1 Sales consideration 15000
2 Cost of Acquisition 5000
3 Cost to be considered 5000
4 Capital Gain 10000
5 Discount 5000
6 Taxable Capital Gain 5000

Question 5
Jewellery sold in July 2017 for $5,000. The jewellery was purchased for 29/09/09 for
$20,000
Answer 5
In terms of Section 118.10 of Income Tax Assessment Act, 1997 disposition of collectibles
shall not be liable to capital gain or loss if the market value of such base does not exceed
AUD 500 at the time of acquisition. Further, it is stated that if the asset is used both for
private and official use then appropriate apportionment should be made. Further, in case the
asset was acquired before 16 December, 1995 then the provision of Section 118-10 of Income
Tax (Transitional Provisions) Act, 1997 (Commonwealth consolidation, n.d.) shall apply
which are similar to above.
In the current scenario, jewellery sold in July qualifies for special collectible. However,
exemption shall not be provided as the market value of acquisition of such asset exceed AUD
500 and disposition of the same shall trigger capital gain tax liability in terms of Section 102-
20 and Section 104-10(1) of ITAA, 1997. Further, the holding period of the jewellery
exceeded 1 year. Thus, the provisions of subdivision 115-A of ITAA, 1997 shall be
applicable as the disposition has been made by an individual with holding period greater than
1 year and the purchase of such asset was made after 20th September,1985.Accordingly, the
taxable income has been worked out here-in-below:
Computation of Taxable Income
Sl. No. Particulars Amount Amount
1 Sales consideration 5000
2 Cost of Acquistion 20000
3 Cost to be considered 20000
4 Capital Loss -15000
6
Shares in XYZ Ltd were sold on 1/10/2017 for $45000. These shares were purchased for long
term investment purposes on 31/10/1998 for $41500.
In the said case, Elwood has purchased certain shares in 31/10/1998 and disposed off the
same in the current year leading to rise of a Capital Gain Tax event in terms of Section 102-
20 and Section 104-10(1) of ITAA, 1997. Further, the holding period of the shares exceeded
1 year. Thus, the provisions of subdivision 115-A of ITAA, 1997 shall be applicable as the
disposition has been made by an individual with holding period greater than 1 year and the
purchase of such asset was made after 20th September,1985. Accordingly, the taxable income
has been worked out here-in-below:

Computation of Taxable Income
Sl. No. Particulars Amount Amount
1 Sales consideration 45000
2 Cost of Acquistion 41500
3 Cost to be considered 41500
4 Capital Gain 3500
5 Discount 1750
6 Taxable Capital Gain 1750
Question 7
Elwood has interests in many businesses. One particular business is a clothing store. This
store imports a lot of clothing from overseas and is entitled to a concessional rate on the
customs duty for a quota (a particular quantity) of protective clothing. However, this
protective clothing was not selling well so Elwood sold the quota to another business for $50
000. The value of the quota at purchase 5 years ago was $25 000. Elwood also has to pay an
annual fee of $5000 to renew the quota.
Answer 7
In the said case, Elwood has purchased business quota 5 years ago and disposed off the same
in the current year leading to rise of a Capital Gain Tax event in terms of Section 102-20 and
Section 104-10(1) of ITAA, 1997. Further, the holding period of the shares exceeded 1 year.
Thus, the provisions of subdivision 115-A of ITAA, 1997 shall be applicable as the
disposition has been made by an individual with holding period greater than 1 year and the
purchase of such asset was made after 20th September,1985. Also, in addition the expenses
incurred towards maintain the quota shall also be deducted while computation of capital gain
tax or loss. Accordingly, the taxable income has been worked out here-in-below:
Computation of Taxable Income
Sl. No. Particulars Amount Amount
1 Sales consideration 50000
2 Cost of Acquistion 25000
3 Annual Maintenance 25000
4 Cost to be considered 50000
5 Capital Gain 0

Brief Snapshot
Computation of a able ncomeT x I
Sl. No. Particulars Amount Amount
1 Capital loss on sale of car -2500
2 Capital gain on sale of land Exempt
3 Capital gain on sale of shares 47500
4 Capital gain on sale of collectibles 10000
5 Capital loss on sale of special collectible -15000
6 Capital gain on sale of shares 3500
7 Capital gain on sale of Quota 0
8 Total before discounting 43500
9 Discount 21750
10 Amount taxable 21750
Part 3- General Deductions
Elwood is keenly promoting a car made in Fiji which runs on overproof alcohol. However,
the Federal Government has decided this is undesirable and has imposed a new, strict limit on
the number of cars which can be imported. Elwood is Fijian and is hopping mad about this.
He has launched a media campaign, costing $175 000, attacking this restriction and
demanding its removal claiming it is an unfair restriction on his business structure and is
undermining freedom of product choice.
Elwood has borrowed a significant amount of money to set up the structure to import the
cars, buy and fit out showrooms and provide the after sales support for the cars.
Elwood wishes to know whether the:
(a) interest on the loan, amounting to $250 000, will be deductible. He took the loan out
after confirmation from both governments the importation could go ahead, however he
did not have a showroom at this time. He acquired the showroom before the first cars
arrived.
(b) costs of the media campaign are deductible.
Answer
In terms of Division 8 of ITAA, 1997, there are generally two categories of deduction shall
be allowed (a) General deduction u/s 8-1 of ITAA, 1997 and (b) Section 8-5 of ITAA ,1997
specific deduction. Further, under section 8-1 there are positive and negative limbs of
deduction. In general, ITAA 1997 permits deductions for those expenses that have been
incurred for generating assessable income or has been incurred for generating assessable
income. Further, a nexus should be established between expenditure and generation of

assessable income as laid down in judgement of Charles Moore & Co (WA) Pty Ltd v FCT
(1956) 95 CLR 344. (Anon., n.d.)
Further, if the link is remote the same shall not be allowed as deduction. Besides reference
may be had to the judgement of Steele v DCT (1999) 197 CLR 459 wherein it was held that
interest incurred on loan taken to purchase the property shall be allowed as deduction if the
taxpayer could demonstrate that the said expense was incurred to generate assessable income
even though the project has been abandoned. (Commonwealth of Australia, 2015)
In the present case, the expenditure incurred by Elwood was with the intention to generate
revenue, hence the said expenditure shall be allowed as deductible expense under ITAA,
1997.
Further, w.r.t the deduction for campaign to protest against the restriction and demanding
removal of the same does not have a direct nexus with generation of assessable income and
accordingly the same may not be allowed as deduction in terms of above case laws and
relevant section and division of ITAA, 1997.

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