Taxation Law: Analysis of Tax Implications on Business Structures

This report examines the tax implications of different business structures, including sole traders, partnerships, companies, and trusts, under Australian taxation law. For sole traders and partnerships, the tax treatment aligns with individual taxpayers, with business income taxed as ordinary income and capital gains subject to discount and indexation methods. Companies, however, face corporate tax at 30%, with limited access to capital gains discounts but benefit from dividend imputation. Trusts are not directly taxed; instead, income is taxed at the beneficiary level, with capital gains discounts available to non-company beneficiaries. The report concludes that while sole traders and partnerships have similar tax treatments, companies are subject to corporate tax, and trusts' taxation depends on beneficiary entitlements. Desklib provides this student-contributed report along with a wealth of study resources.

TAXATION LAW
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Executive Summary
The given report aims to outline the tax implications of some selected business structures.
This has been done so as to assist the client in making a prudent decision with regards to the
appropriate business structure. The findings suggest that the tax treatment extended to a sole
trader and partnership firm is broadly in line with an individual taxpayer. However, in case of
company, instead of personal income tax, corporate tax would be applicable. Besides, for
capital gains, companies cannot avail 50% discount method. In case of trusts, the underlying
taxation is dependent on the beneficiaries and taxed at their end.

Introduction
The selection of business structure plays a crucial role in the success of business. Considering
the host of options available for business structure, the suitable choice needs to be made in
this regards. While there are a host of factors to be considered for making a prudent choice of
business structure, one of the critical ones would be to consider the tax implications. This is
imperative since every business intends to maximise the post-tax business and thereby would
aim to choose a business structure that tends to result in the least amount of tax liability. In
this backdrop, a critical review of the taxation treatment of the various business structures has
been carried out so as to reflect the appropriate treatment of these which would allow the
client to make prudent choice of business structure.
Tax implications of Business Structures
The relevant tax implications of the chosen business structures are as indicated below.
Sole Trader
The sole trader is not a separate legal identity and is known only by the underlying individual
who owns the business. As a result, there is no difference between the sole trader and an
individual taxpayer from the perspective of tax. This implies that the business income
produced through the sole trader operations would be considered as ordinary income for the
owner of the business as per s. 6-5 ITAA 1997. Also, relevant deductions would be available
for business expenses on the basis of relevant provisions in ITAA 1997 and ITAA 19361.
With regards to capital gains also, the tax treatment would be same as that of individual
taxpayer. As a result, based on the underlying CGT event as listed in s. 104-5 ITAA 1997, the
appropriate capital gains would be determined. Further, both the discount method and
indexation method can be applied to the capital gains in order to reduce the amount of taxable
capital gains. There is no restriction on the owner with regards to non-availability of a
particular method2.
Partnership
1 Barkoczy Stephen, Core Tax Legislation and Study Guide 2017 (Oxford University Press Australia, 2017)
2 Krever Richard, Australian Taxation Law Cases 2017 (THOMSON LAWBOOK Company, 2017)

A partnership is not a separate legal entity and hence is defined by the underlying partners.
Even though it is expected that the partnership firm will lodge an annual tax return but it is
not considered a taxable entity. As a result, the profits or losses made by the partnership firm
would be divided amongst the partners in the ratio of their stakes or as per the partnership
agreement. The personal income tax would be levied on the income or loss received by the
partners provided they are Australian residents3.
Similarly with regards to assets held by the partnership business, the ownership of the assets
lies with the partners and hence the respective stake in asset ownership for the partners would
arise from the partnership understanding or profit sharing ratio. The CGT computation would
be carried out for the asset as in case of a individual tax owner and any CGT liability would
be apportioned between the partners in the ratio of their asset ownership4.
Company
As indicated in s. 124(1) Corporations Law, a company has a separate legal entity
independent from the owners. This implies that the tax on account of the income or loss
derived by the company is levied on the company only and not on the shareholders. This is
corporate tax which in Australia is 30%. However, the effective tax rate tends to lower owing
to a host of concessions that are available to companies5. Additionally, there is a system of
dividend imputation whereby franking credits are received by the shareholders. In relation to
CGT liability on capital gains, the discount method cannot be applied for companies. Hence,
the only method available to reduce their taxable gains would be the indexation method. The
mechanism of CGT computation and CGT rate remains the same i.e. 30%6.
Trusts
A trust is not an individual and is not subject to personal or corporate tax with regards to the
income derived. The tax treatment in case of trust depends on the underlying entitlements
with regards to income. For instance, if the income made by the trust is paid to a normal
beneficiary, then the beneficiary would be levied tax as the income would be ordinary in
nature. In the case of entitlement being in the name of a party with legal disability (such as
3 ATO Partnerships, https://www.ato.gov.au/Forms/Partnership-tax-return-instructions-2012/?page=15
4 ATO Partnership tax return instructions 2012, https://www.ato.gov.au/Forms/Partnership-tax-return-
instructions-2012/?page=3#General_information
5 Reuters, Thomson, Australian Tax Legislation (THOMSON REUTERS, 2017)
6 Les Szekely, ‘Choosing a Business Structure (2006) 41(3) Taxation in Australia 150.

mentally unsound, minor), personal income tax would be levied on the trustee (irrespective of
individual or company) who would derive income. If there is some income for which there is
no beneficiary entitled, then the same would be taxed at 47%7.
The discount method (s. 115-25 ITAA 1997) is available for trusts with regards to CGT
computation provided the asset has been held for atleast one year. However, the benefit of
CGT related discount goes to the underlying beneficiary excluding any company (as not
eligible for 50% discount). Further, for business related trusts, additional CGT concessions
are available for small businesses8.
Conclusion
On the basis of the above discussion, it may be concluded that for the partnership and sole
trader business structure, there is no significant difference with regards to taxation treatment
both in the context of business income and also the capital gains derived. However, since
company has a separate legal identity, hence the business income is levied corporate tax @
30% in Australia. However, the available concessions tend to reduce this to much lower
levels. In case of trusts, the income is taxed at the end of the beneficiary while the discount
method is applicable for capital gains but the underlying benefit is appropriated to the
beneficiaries that do not have a company structure.
7 DavidGarryAssociates, An overview of Trusts in Australia https://www.davidgarry.com.au/overview-of-trusts-
in-australia.html
8 ATO, Trusts Capital Gains and Losses, https://www.ato.gov.au/General/Trusts/Trust-capital-gains-and-losses/