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Retrospective Changes to Company Tax Rate Rules

October 2017


The Government has released draft legislation that limits which companies will qualify for the lower tax rate of 27.5%.

There has been considerable uncertainty around the application of the lower company tax rate rules, particularly in light of the ATO's comments that suggested the threshold for carrying on a business is lower for a company than it is for other taxpayers.

While we are still waiting on the ATO to provide further clarification on this issue (not expected until November 2017), the Government has stepped in to try and limit the scope of the tax rate reduction to companies that earn more than 20% of their income from active trading activities. 

Treasury has released exposure draft legislation setting out how the new rules are intended to apply but keep in mind that this could potentially change before the new rules are actually introduced. 

Changes in Eligibility for the 27.5% Tax Rate

The draft legislation basically ensures that a company will only qualify for the lower rate of 27.5% if:

  • The company carries on a business in the relevant income year; Its aggregated annual turnover for the year is less than the applicable threshold (e.g., $10m for the 2017 year); and
  • Less than 80% of its assessable income is passive in nature.

For the purpose of these rules, passive income includes the following:

  • Dividends received from another company (except where the company holds at least a 10% interest in the company paying the dividend);
  • Interest income;
  • Rent;
  • Royalties;
  • Capital gains;
  • Amounts that have flowed through a partnership or trust and that are attributable to passive income; and
  • Gains on qualifying securities.

These changes should ensure that companies that only hold rental properties would not qualify for the lower tax rate. However, a company that receives distributions from a related trust could still qualify if the company carries on a business in its own right and more than 20% of its income is attributable to trading profits (directly or indirectly through the trust). In this scenario, we will still end up having to determine whether the company carries on a business under ordinary principles.

The Likely Impact for Small Business

The problem that arises will be that the changes are intended to apply from the 2017 year onwards. The current rules allow small business entities to qualify for the lower rate and these rules allow prior year or current year turnover to be taken into account. 

However, the proposed new rules will only look at the current year turnover in the 2017 year which means that companies with an aggregated turnover of $10m or more in the 2017 year will be subject to a 30% tax rate, even if their aggregated annual turnover was less than $10m in the 2016 year.

There may well be a number of situations where you may need to amend 2017 tax returns to reflect a different tax rate, we will have to wait and see how the ATO proposes to deal with this issue. 

Maximum Franking Percentage Rules

Changes will also be made to the maximum franking percentage rules. In determining a company's maximum franking rate for a particular income year you need to look at the tax rate that would apply in the current year if the following assumptions are made:

  • The company's aggregated turnover in the current year is the same as in the previous year;
  • The company's assessable income in the current year is the same as in the previous year; and
  • The company's passive income in the current year is the same as in the previous year.

Some companies have already been forced to adjust the franking percentage that applies to dividends paid out in the 2017 year. These changes could potentially cause further adjustments to be made, with flow-on implications for the shareholders.

More information

There is still more information to come on the company tax rate and how this will apply to small business. Please contact us on 02 9957 4033 to discuss this with your accounting team.

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Disclaimer

This article is provided for information purposes only and correct at the time of publication. It should not be used in place of advice from your accountant. Please contact us on 02 9957 4033 to discuss your specific circumstances.

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