After much delay, Treasury Laws Amendment (Enterprise Tax Plan Base Rate Entitles) Bill 2017 was finally passed by the Senate into law on 23 August 2018. This provides certainty for corporate clients as we head into the lodgment and compliance season. The new legislation introduces a new “bright line test” to determine eligibility for the lower company tax rate.
2017-18 AND FUTURE YEARS
This new test applies from 2017-18 onwards. It provides that corporate tax entities that receive more than 80% of their assessable income in passive forms (broadly interest, rent, royalties, dividends and capital gains) will not be eligible for the lower tax rate irrespective of their level of turnover.
In simple terms, this test requires a comparison of a company’s total passive income for the financial year against its assessable income for that same financial year. This new test can throw up some anomalous outcomes. For instance, a corporate beneficiary that is set up solely to receive distributions from a trust that carries on a business would under this test be eligible for the lower company tax rate, however a software development company that has 30 employees, but derives its income from licence fees/subscriptions (royalties) would not be.
The new rules were originally slated to apply from 1 July 2016, however this retrospective element of the legislation was eventually dropped. Therefore, eligibility for the lower tax rate in 2016-17 depends entirely on a company being a “small business entity” (that is, carrying on a business with an aggregated turnover of less than $10 million).
At approximately the same time as the amending Bill was introduced into Parliament, the ATO released draft Taxation Ruling TR 2017/D7 setting out its views on exactly when a company is “carrying on a business”. While this is not relevant for eligibility for the lower company tax rate from 2017-18 onwards (as this depends upon the “passive income test” – see earlier), it is relevant for the lower company tax rate in 2015-16 and 2016-17. It is also relevant for access to the small business tax concessions (containing FBT, CGT, income tax, and GST advantages).
The ruling defines “carrying on a business” quite broadly to include bucket companies that invest their distributions, and also passive investment companies (either those just holding rental properties or share portfolios). The ATO has also subsequently stated that companies that simply have the intention of making a profit are considered to be carrying on a business.
This new definition of carrying on a business potentially opens the way for more businesses to access the small business concessions in the future, as well as the lower company tax rate in 2016-17 and 2015-16. In the event that the final version of the draft ruling retains the wide definition of “carrying on a business”, 2016-17 and 2015-16 tax returns may therefore need to be amended, potentially to the benefit of certain companies.
With the change to corporate rates of course, the franking credit rules have also changed. See more on this here.
All told, the new rules herald a significant change to eligibility for the lower company tax rate, and also the calculation of franking credits going forward. The wider definition of carrying on a business may also have implications for prior year returns, and future access to the small business concessions.
More information and essential details can be found in the full version of this article, which appears in the October issue of The Taxpayer magazine. Tax & Super Australia members receive this magazine as a member benefit.