HI6028 Introduction to Capital Gains Tax
(a) Block of vacant land. On 3 June of the current tax year your client signed a contract to sell a block of vacant land for $320,000. She acquired this land in January 2001 for $100,000 and incurred $20,000 in local council, water and sewerage rates and land taxes during her period of ownership of the land. The contract of sale stipulates that a deposit of $20,000 is payable to her when the contract of sale is signed and the balance is payable on 3 January of the next tax
year, when the change of ownership will be registered.
(b) Antique bed. On 12 November of the current tax year your client had an antique four-poster Louis XIV bed stolen from her house. She recently had the bed valued for insurance purposes and the market value at 31 October of the current tax year was $25,000. She purchased the bed for $3,500 on 21 July 1986. Although the furniture was in very good condition, the bed needed alterations to allow for the installation of an innerspring mattress. These alterations significantly increased the value of the bed, and cost $1,500.
(c) Painting. Your client acquired a painting by a well-known Australian artist on 2 May 1985 for $2,000. The painting had significantly risen in value due to the death of the artist. She sold the painting for $125,000 at an art auction on 3 April of the current tax year.
(d) Shares. Your client has a substantial share portfolio which she has acquired over many years. She sold the following shares in the relevant year of income:
(i) 1,000 Common Bank Ltd shares acquired in 2001 for $15 per share and sold on 4 July of the current tax year for $47 per share. She incurred $550 in brokerage fees on the sale and $750 in stamp duty costs on purchase.
(ii) 2,500 shares in PHB Iron Ore Ltd. These shares were also acquired in 2001 for $12 per share and sold on 14 February of the current tax year for $25 per share. She incurred $1,000 in brokerage fees on the sale and $1,500 in stamp duty costs on purchase
(iii) 1,200 shares in Young Kids Learning Ltd. These shares were acquired in 2005 for $5 per share and sold on 14 February of the current tax year for $0.50 per share. She incurred $100 in brokerage fees on the sale and $500 in stamp duty costs on purchase.
(iv) 10,000 shares in Share Build Ltd. These shares were acquired on 5 July of the current tax year for $1 per share and sold on 22 January of the current tax year for $2.50 per share. She incurred $900 in brokerage fees on the sale and
$1,100 in stamp duty costs on purchase.
(e) Violin. Your client also has an interest in collecting musical instruments. She plays the violin very well and has several violins in her collection, all of which she plays on a regular basis. On 1 May of the current tax year she sold one of these violins for $12,000 to neighbor who is in the Queensland Symphony Orchestra. The violin cost her $5,500 when she acquired it on 1 June 1999.Your client also has a total of $8,500 in capital losses carried forward from the previous tax year, $1,500 of which are attributable to a loss on the sale of a piece of sculpture which she sold in April of the previous year.
Question 2
Rapid-Heat Pty Ltd (Rapid-Heat) is an Electric Heaters manufacturer which sells Electric Heaters directly to the public. On 1 May 2017, Rapid-Heat provided one of its employees;Jasmine, with a car as Jasmine does a lot of travelling for work purposes. However,Jasmine's usage of the car is not restricted to work only. Rapid-Heat purchased the car on
that date for $33,000 (including GST).For the period 1 May 2017 to 31 March 2018, Jasmine travelled 10,000 km in the car and incurred expenses of $550 (including GST) on minor repairs that have been reimbursed by Rapid-Heat. The car was not used for 10 days when Jasmine was interstate and the car was parked at the airport and for another five days when the car was scheduled for annual repairs.
On 1 September 2017, Rapid-Heat provided Jasmine with a loan of $500,000 at an interest rate of 4.25%. Jasmine used $450,000 of the loan to purchase a holiday home and lent the remaining $50,000 to her husband (interest free) to purchase shares in Telstra. Interest on a loan to purchase private assets is not deductible while interest on a loan to purchase income-producing assets is deductible.During the year, Jasmine purchased an Electric Heaters manufactured by Rapid-Heat for $1,300. The Electric Heaters only cost Rapid-Heat $700 to manufacture and is sold to the general public for $2,600.
Answer:
The key issue in the given scenario is to provide advice to a client with regards to the tax treatment of the given asset disposals that the client has executed during the given year (2017/2018). A key aspect to note is that the client is not engaged in business of the disposal of these assets which implies that the focus should be on the capital gains related tax implications as the ordinary income under s. 6-5 would not arise.
Law & Application
A critical aspect with regards to application of CGT (Capital Gains Tax) is the date of acquisition of the asset. Any asset that was bought in the era when CGT was not applicable would be termed as pre-CGT asset. The cut-off date in this regards is September 19, 1985 which implies assets bought on or before would be pre-CGT asset (Barkoczy, 2017). This classification of asset has relevance since no CGT liabilities would arise for a pre-CGT asset irrespective of the holding period and the amount of capital gains produced.
Land Block
The need for capital gains computation commences with the occurrence of a CGT event which in this case would be A1 as indicated in s. 104-5, ITAA 1997. In accordance with A1 event, the underlying capital gains can be computed by comparison of the sales proceeds with the underlying asset cost base. The asset cost base may be defined as per s. 110-25 ITAA 1997. In accordance with s. 110-25(1), the cost base comprises of namely five components as defined below (Krever, 2017).
Additional factor to be considered in the contex
t of this sale is the fact that the sale of capital assets typically has matching issues with regards to contract for sale enactment and receipt of the payment. Due to mismatching, these two events can potentially lie in two different tax years and hence a question arises about the timing of levying of CGT liability (Barkoczy, 2017). Hence, the key question emerges is whether the CGT liability ought to be levied in the tax year the sale agreement is enacted or when the transaction is closed with the receipt of cash.
Tax ruling TR 94/29 provides the requisite guidance in this regards as it highlights that CGT should be applied in the year when the contract for sale is actually enacted. Also, if capital gains arise then the same have to be adjusted only against the capital gains and not against taxable income. Hence, if capital gains are not available in a year, the pending capital losses can be extended to the next year. Also, concessions on capital gains are available in the form of discount method which is applied whereby capital gains are reduced by 50% as per s. 115-25(1), ITAA 1997.
The information provided indicates that a land block was purchased in 2011. This implies that the CGT would apply on the potential capital generated from asset sale since it is not a pre-CGT asset. Further, considering selling of land in 2017/2018, it can be concluded that the asset holding period is greater than one year and hence the capital gains would be classified as long term (Nethercott, Richardson and Devos, 2016). Also, in the sale of given land, there is mismatching of the contract enactment and receipt of sale proceeds.
However, the CGT would be applicable on the derived capital gains in the current tax year when the contract has been executed. This concept would be applied in the given transaction as sales proceeds would be received in the next year but the CGT implication of the transaction would be borne by the client in the current year as contract signed in the given tax year only. Based on the above discussion, the capital gains on which CGT would be applicable are illustrated as follows.
Antique Bed
One of the key components of collectable is antique item which has been outlined in TD 1999/40. In order to derive the capital gains on antique bed disposal, the corresponding CGT event triggered in A1 as highlighted in s. 104-5 ITAA 1997. Also in accordance with s. 118-10(1), ITAA 1997, for any collectable item, if the purchase price does not exceed $ 500, then the underlying capital gains and capital losses would not be considered and the asset would be termed as CGT exempt (Wilmot, 2014).
The client has come to possess the antique bed only after CGT era has begun i.e. after September 20, 1985. Further, the purchase price of the asset also fulfils the minimum price criterion and hence the capital gains are not insulated from CGT. The cost base computation for this asset is highlighted as follows.
A noteworthy fact with regards to the bed is that it has not been disposed by the client but has been stolen and the insurance proceeds receipts are lower than the market value of the antique bed. Further, the resulting gains would be long term in nature considering that the antique bed was held for more than a year by the client and hence discount method related concessions on the capital gains can be availed as per s. 115-25(1), ITAA 1997. Relevant computations regarding taxable capital gains are illustrated as shown below.
Painting
In accordance with s. 149-10 ITAA 1997, it has been explained that no CGT liability would arise for any pre-CGT asset without consideration to the holding period and the quantum of gains realised. The painting is an example of pre-CGT asset and thereby no CGT would be levied on the capital gains that may arise from sale of painting (Sadiq, et.al., 2015).
Shares
Considering the date of purchases of the various company’s shares that the client has invested in, it becomes evident that none of these would be categorised as a pre-CGT asset as all these have been purchased only after the introduction of CGT in Australia (Woellner, 2017). The sale of share asset would deliver long term gains is the holding period of shares would exceed one year. The consideration in this regards is pivotal since Division 115 concession in capital gains is possible only for long term gains. The related computations for taxable capital gains are as illustrated below.
Violin
The key issue in the given case is to ascertain whether violin is a mere collectable item or an item of personal use. This differentiation is imperative considering the CGT implications that arise. A noteworthy aspect to be highlighted is that the client is a good violin player and tends to regular use violin for her entertainment (Hodgson,Mortimer and Butler, 2016). As a result, a collection of violin has been maintained with the client.
Considering the use of asset to regularly derive entertainment, it implies that the underlying asset would be of personal use and not collectable. For assets belonging to personal use category, CGT implications would be exempt if the cost price would be lower than $ 10,000. (Gilders, et. al., 2015). For the violin that the client has sold, the purchase price is $ 5,500 and hence any capital gains or loss arising from the sale would not be considered significant as the given asset is CGT exempt.
Based on the calculations carried out above, the conclusion can be drawn that taxable capital gains for the client would arise only for three assets namely land, shares and antique bed. The remaining assets are exempt from CGT.
Question 2
Issue
The main objective in the given case is to highlight the consequences related to FBT(Fringe Benefit Tax) for the various benefits that have been extended to employee Jasmine on the end of the employer i.e. Rapid Heat Ltd. Also, another issue is to highlight as to how the tax deductions available to the employer would change with the alteration of usage of loan provided to employee.
Law & Application
Fringe benefits refer to those noncash benefits which the employers provide to employees for their personal use. Hence, it is noticeable that these benefits are not professional but rather personal in nature. As a result, the taxation of these is governed by the relevant clauses listed in Fringe Benefit Tax Assessment Tax 1986 (FBTAA 1986). A key feature of these benefits is that there is no liability on the employee for receiving these benefits but the tax is paid by the employer on these.
Car fringe benefit: These are highlighted in Division 2 of Part III in FBTAA 1986 and highlight the necessary condition for extension of this benefit. The key condition is that the employer must provide car to the employee and this has to be available for personal use of the employee. The actual usage of the car by employee for personal work is not significant. The imperative aspect is that employer has allowed the usage of the car by employee or any associate of employee for their personal work or enjoyment (Nethercott, Richardson and Devos, 2016).
The FBT liability for the employer as per s. 9 is independent on the distance travelled by the employee. However, a critical factor is the availability of days in relation to private usage. In this regards, it must be noticed that the non-ability of the employee to use the car even when it is available does not provide any deductions. Similarly, if the car has to go to garage for any routine maintenance or small repair, then the time spent in garage would not be applicable for any deduction (Hodgson,Mortimer and Butler, 2016). Deductions in availability could only be sought for major repairs such as those which render the car unusable.
In the given case, Jasmine has been provided a car by employer without any restrictions and hence personal usage is allowed. The FBT liability arising for the employer based on this car benefit is computed considering the statutory formula approach endorsed by s. 9 FBTAA 1986. It is noted that deduction in days has not been provided for minor repairs and the period for which car could not be used since Jasmine was out of town. Also, for the year ending on March 31, 2018, the relevant FBT rate is 47% while the type 1 gross up rate is 2.0802 (Krever, 2017). The FBT burden on the employer owing to the given fringe benefit is computed below.
Loan fringe benefit: This benefit is extended to employees in the form of cheaper loans which allows them to save on the interest costs. The minimum interest rate at which employers are supposed to lend so as to ensure that no loan fringe benefits are extended is called the Benchmark Interest Rate (Sadiq, et.al., 2015). This is decided by RBA and tends to vary on an annual basis. Further, the FBT liability on the loan amount would be linked to the quantum of interest savings reaped by the employee. Also, if the employee uses the loan proceeds for generation of assessable income, then in such cases, deduction is available for the employer to the tune of interest savings related to the principal deployed for income producing activity (Nethercott, Richardson and Devos, 2016).
The relevant benchmark interest rate for year ending on March 31, 2018 has been indicated in TD 2017/3 and amounts to 5.25% p.a. (ATO, 2017). However, the employer has given loan with an interest rate of 4.25% p.a. Clearly, loan fringe benefits have been extended and the relevant liability on the employer owing to this is illustrated as follows (ATO, 2018).
The use of the loan proceeds by Jasmine is highlighted as follows.
- $450,000 (Holiday home)
It is likely that the holiday home would produce taxable income and hence this investment by Jasmine would result in tax deduction available for Rapid Heat Pty Ltd in accordance with Division 4, Part III FBTAA 1986.
- $50,000 (Husband buys shares of Telstra)
No tax deduction available for the employer on this investment despite production of assessable income in the form of dividends since the shares has been bought in the name of Jasmine’s husband and not Jasmine.
Internal expenses fringe benefit:
Employers tend to bear some personal expenses of employee and these are referred to as expense fringe benefits. Since the expenses ate of personal nature, hence the employer is not liable to contribute (Wilmot, 2014). However, contributing to the personal expenses leads to personal expense saving for the employee and thereby leads to extension of benefits. One of the ways in which this benefit can be extended is through providing self-manufactured goods at a steep discount to the employee. In this case, a part of the expense is borne by the employer while the rest by the employee (Woellner, 2017).
In the circumstance presented, jasmine intended to buy heater made by Rapid Heat. If she went to a retailor to buy the same, it would have been available for $ 2,600 but the company bore half of the personal expense and provided the heater only for $ 1,300. The benefit in this case is the saving of $1,300 which Jasmine has drawn owing to employer agreeing to provide the heater for $ 1,300.
(b) The proceeds to the tune of $ 50,000 which were previously given to her husband are not being used by Jasmine for the same purpose as her husband. In the given case, tax deduction to employer (Rapid Heat) would be extended since now employee is using the money for assessable income production in the form of dividends. The additional deduction amount that would be available is computed below.
Deduction = (5.25%-4.25%)*50000 =$500
Hence, based on the above computation, it can be concluded that additional tax benefits to the extent of $ 500 can be availed by the employer (Woellner, 2017).
Conclusion
The above computation clearly highlights that for the various fringe benefits related to car, loan and expense that have been provided to Jasmine, FBT on the employer to the extent of $5823.70, $2575.35 and $635.5 respectively would be payable for 2017/2018. It is noticeable that in case of shares being bought by Jasmine, the FBT liability of the employer would become lesser by $ 500.
References
ATO, (2017) Taxation Determination –TD 2017/3
ATO, (2018) Loan Fringe Benefits
Barkoczy, S. (2017) Foundation of Taxation Law 2017. 9th ed. Sydney: Oxford University Press.
Deutsch, R., Freizer, M., Fullerton, I., Hanley, P., and Snape, T. (2015) Australian tax handbook. 8th ed. Pymont: Thomson Reuters.
Gilders, F., Taylor, J., Walpole, M., Burton, M. and Ciro, T. (2016) Understanding taxation law 2016. 9th ed. Sydney: LexisNexis/Butterworths.
Hodgson, H., Mortimer, C. and Butler, J. (2016) Tax Questions and Answers 2016. 6th ed. Sydney: Thomson Reuters.
Krever, R. (2017) Australian Taxation Law Cases 2017. 2nd ed. Brisbane: THOMSON LAWBOOK Company.
Nethercott, L., Richardson, G., and Devos, K. (2016) Australian Taxation Study Manual 2016. 8th ed. Sydney: Oxford University Press.
Reuters, T. (2017) Australian Tax Legislation (2017). 4th ed. Sydney. THOMSON REUTERS.
Sadiq, K., Coleman, C., Hanegbi, R., Jogarajan, S., Krever, R., Obst, W., and Ting, A. (2015) Principles of Taxation Law 2015. 7th ed. Pymont: Thomson Reuters.
Wilmot, C. (2014) FBT Compliance guide. 6th ed. North Ryde: CCH Australia Limited.
Woellner, R., Barkoczy, S., Murphy, S. and Pinto, D. (2017) Australian Taxation Law 2017 27th ed. Sydney: Oxford University Press Australia.
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