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The Australian Taxation Office is cracking down on family businesses which misuse partnership and trust structures to shift profits and avoid paying income tax, with 75 companies already in its sights. Tax agents who promote the illegal practice are also in the firing line.
The ATO on Thursday said it was targeting arrangements where individuals extracted profits from their business, for themselves or a family member, by funnelling the payments into a purported private company partnership for the purpose of qualifying for the lower corporate tax rate.
The ATO told Fairfax Media it was concerned the “wealth extraction strategy” was being marketed to successful small business owners and professionals who ran their business through trust structures, leading it to fire a warning shot now before it became more widespread.
“We’re seeing contrived arrangements where business profits are claimed to be diverted to a partnership and as much as 99 per cent of profits are allocated to the private company and taxed at the 30 per cent corporate tax rate,” ATO deputy commissioner Michael Cranston said.
“The company typically doesn’t control or benefit from the profits. Rather, the money is loaned or paid to individuals who do not include the amounts in their assessable income avoiding ‘top-up’ income tax on what they receive.”
If the profits were paid directly to an individual up to 49 per cent tax may be applicable, 19 per cent higher than the corporate tax rate, with the difference between the corporate rate and the marginal income tax rate payable as “top-up” income tax.
Voluntary disclosure urged
The profits are usually channelled to the partnership through a discretionary trust or through dividends from a private company, such as under a “dividend access share” arrangement.
“We are currently reviewing a number of cases that involve the arrangement and will continue engaging with taxpayers over the coming months,” Mr Cranston said.
An ATO spokesperson confirmed that 23 audits had already begun in relation to the misuse of private partnerships for profit shifting and tax avoidance, with a further 52 potential cases under review.
Cases dating as far back as the financial year ended June 2012 may be reviewed.
“We encourage taxpayers who think they may be involved in such arrangements to contact us to make a voluntary disclosure or seek a private ruling. Affected taxpayers may also want to consider seeking independent advice from an adviser not involved with the arrangement,” Mr Cranston said.
“A significant proportion of those taxpayers already being investigated are actively pursuing settlement options.”
The ATO has been emboldened by two recent rulings in its favour by the Administrative Appeals Tribunal: against D Marks Partnership & Ors in September; and NR Allsop Holdings as general partner of Q Uniform Partnership in August. In both cases the ATO successfully argued partnership structures were established to reduce tax and were not genuine limited partnerships for business purposes.
Broader reforms needed
But tax experts warned as long as there is an almost 20 per cent gap between the corporate tax rate and the top marginal income tax rate, small to medium size family businesses will continue to be tempted to break the rules.
“Many family businesses have been using these sorts of inappropriate practices for years to avoid or defer tax and it is no wonder when there is up to a 19 per cent difference between the corporate tax rate and the top marginal income tax rate,” Grant Thornton tax partner Paul Banister said.
“The longer broader tax reform is delayed, the more these symptomatic tax avoidance issues are going to be an issue”.
Mr Banister called for a broadening of the tax base, including lifting the GST to 15 per cent and targeting superannuation tax concessions, to fund a lowering of the top marginal income tax rates.
CPA Australia chief executive Alex Malley said the accountants’ peak body supported the ATO’s compliance initiatives, while also calling for “urgent reform” of the total tax system.
“This includes our over reliance on income taxes, be they individual or company. We need to recalibrate the tax mix, and ensure we’re as competitive as we can be, domestically and internationally.”