The annual rush to beat the taxman

Weare rapidly approach

ing that time of year again

when the rush is on to find

ways to boost up tax

deductions and minimise

the tax bill for this year.

Clients and advisers

alike can become more

focused on reducing tax

bills rather than looking at

the maximisation of over

all wealth. This can cloud

decisions and bias recom

mendations, without due

consideration to client

objectives or risk profile.

Minimising tax is such

an emotional issue that

rational thought can often

be lost. Tax minimisation

is almost a sport in Aus

tralia. In many cases, a tax

deduction is received only

because associated expens

es are more than the

income received. Is a tax

deduction in these circum

stances really valuable?

A tax deduction for

expenses does not provide

you with a dollar for dollar

benefit. Even a person on

the highest marginal tax

rate will only receive a tax

saving of 48.5 cents for a

one-dollar expense deduc

tion. Therefore, the under

lying investment must also

be competitive and produce

an adequate return to allow

the investor to meet their

investment objectives. You

need an investment that

produces good capital gain.

Taxpayers are permitted

to use the taxation legisla

tion to manage their tax

liability, provided they

don’t fall foul of the Part

IVA anti-avoidance meas

ures.

Be careful of tax driven

arrangements which look

too clever. The law is inter

esting and uncertain. It is

often possible to mount

legal arguments which

change the intention of the

law to gain an advantage.

While these strategies can

help you attract clients, if

the situation turns sour it

can be damaging to your

business, as well as to

clients.

The Australian Taxation

Office (ATO) maintains a

vigilant watch to close

schemes or arrangements

which are purely tax driv

en or exploit the legisla

tion. Penalties can apply to

the promoters of these

schemes as well as

investors.

Over recent years, we

have seen a number of tax

driven arrangements which

have become the subject of

long running legal debate.

Two prominent examples

are the controlling share

holder scheme for super

annuation contributions

and the tax deductibility of

interest on capital protect

ed loans. In both cases,

there is a legal argument to

legitimise the tax advan

tage, however, these

schemes both came under

ATO scrutiny which ruled

that the arguments were

flawed and invalid. This

has led to several years of

protracted legal dispute.

With the capital pro

tected loans, the ATO

issued a press release in

June 1999 stating its view

that the interest costs are

partly for protection

against capital loss and not

fully deductible due to the

capital nature of this por

tion. Investors were

requested to come forward

and amend tax returns to

minimise penalties. But is

this correct? Even the ATO

amended its view in May

2001.

Investors were facing

uncertainty with no clear

direction on how to best

approach the situation they

were in. A recent High

Court decision (Firth case)

has found against the ATO

and allowed a deduction for

the full interest payment.

While this may give

some hope to investors, it

is not an open doorway.

The decision is only rele

vant for the specific cir

cumstances of that partic

ular investor.

This case does show

how much uncertainty can

arise from these types of

schemes. Uncertainty

breeds discontented clients

with negative effects on

your business. An unhappy

client can lead to bad pub

licity for your business, the

potential loss of clients and

unproductive time in deal

ing with the complaints or

reassuring clients. Do you

want to run these risks for

your client and for your

business? Do your clients

want to run the risk of

entering legal disputes with

the ATO? While it is

important to be competi

tive and to look for advan

tages for clients, you

should also consider the

potential legal risks.

It is always advisable to

consider not only the strict

letter of the law, but also

the spirit of the legislation.

Don’t forget there are

simple and legitimate ways

of reducing tax bills which

include: salary packaging

of cars; salary packaging

for employees of conces

sionally taxed employers;

salary sacrifice to super or

personal deductions where

eligible; and using invest

ments that maximise

growth rather than income

such as insurance bonds

and super.

Other ways include:

considering ownership

options carefully to max

imise the ability to split

income; negative gearing;

pre-payment of expenses

(where the 13 month rule

still applies); utilising cap

ital losses to minimise cap

ital gains; using tax-friend

ly investments such as

shares; paying franked div

idends; and ETP income

streams.

Jennifer Brookhouse is the

technical strategy manag

er for RetireInvest and

Louise Biti is the national

technical and research

manager, ING Distribu

tion Business Solutions.