Year end tax planning for small business owners is essentially the use of legitimate strategies to accelerate deductions and to defer the recognition of income. Where the business owner has chosen to adopt the "Simplified Tax System" (STS), there are a different set of rules applying to some of these strategies.

The most common tax planning strategies that business owners should consider prior to 30 June 2006 include:

Simplified Tax System

The Simplified Tax System (STS) commenced from 1 July 2001 and was introduced to minimise the compliance burden on small businesses by applying cash accounting rules for income and deductions as well as simpler rules in recording trading stock and depreciation.

Currently a small business with a three year average turnover of $1M or less GST exclusive and depreciating assets (other than land & buildings) with a written down value of less than $3M can elect to use the STS.

The removal of the compulsory "cash" accounting rules from 1 July 2005 is a positive change for small businesses as they now required to record "income" on either a cash or non-cash basis depending on which is the most appropriate to their particular circumstances.

New entrants into the STS on 1 July 2005 can also claim a deduction for certain expenses that have been "incurred" but not paid by 30 June 2006 (see below) even though they are required to account for income on a cash basis. This provides business owners with a further incentive to enter the STS this financial year.

Small businesses already in the STS for the 2005 year can choose to opt out of the cash accounting rules from the 2006 year (this does not involve leaving the STS). If an STS small business chooses to opt out they can never re-apply the cash accounting rules. There are 2 possible outcomes from opting out:

(a)the business will continue to record income on a cash basis (because it is the most appropriate method) and will now be able to claim deductions on an incurred basis; or

(b)the business will commence to record income on an accruals basis (because it is the most appropriate method) and will now be able to claim deductions on an incurred basis.

Deferring Income

• STS and non STS small businesses that return income on a cash basis are assessed on income as it is received. A simple end of year tax planning strategy is to delay "receipt" of the income until after 30 June 2006.
• STS and non STS small businesses that return income on a non-cash basis are generally assessed on income as it is derived or invoiced. Income may be deferred by delaying the "issuing of invoices" until after 30 June 2006.

Maximising Depreciation Claims

• Non STS small businesses can claim an immediate deduction for assets costing less than $100 GST inclusive (e.g. minor tools). An STS small business can claim an immediate deduction for assets costing less than $1,000 GST exclusive.
• Non STS small businesses can scrap or sell depreciable assets for less than their written down value to realise a tax deduction loss. This does not apply to STS small businesses as they are subject to pooling arrangements for assets costing $1,000 or more GST exclusive.
• Where an STS small business purchases assets costing $1,000 or more GST exclusive, they are included in an asset pool. A full depreciation deduction of 15% (30% thereafter) can be claimed for 2006 regardless of when the assets were acquired during the income year.
• Non STS small businesses can allocate assets costing less than $1,000 GST exclusive to a "low value pool" and claim depreciation of 18.75% for 2006 (37.5% thereafter) regardless of when the assets were acquired during the income year.

Claiming Deductions for Expenses Not Paid At Year End

• Small businesses that entered the STS prior to 1 July 2005 and who have not opted out of the cash accounting rules, can only claim a deduction for expenses when they are paid. Therefore to claim an immediate deduction the business should pay for the expenses by 30 June 2006.
• Non STS small businesses and small businesses that entered the STS on 1 July 2005 (regardless of whether they use the cash or non-cash basis for recording income) are entitled to an immediate deduction for certain expenses that have been "incurred" but not been paid by 30 June 2006 including:
• Salary and Wages. A tax deduction can be claimed for the number of days that employees have worked but have not been paid until after 30 June 2006.
• Directors Fees. A company can claim a tax deduction for directors fees it is "definitely committed" to at 30 June 2006 and has passed an appropriate resolution to approve the payment. The director is not required to include the fees in their taxation return until the 2007 year when the amount is actually received.
• Staff Bonuses and Commissions. Like directors fees a company can claim a tax deduction for staff bonuses and commissions that are owed and unpaid at 30 June 2006 where it is "definitely committed" to the expense.
• Repairs and Maintenance. A deduction can be claimed for repairs undertaken and billed by 30 June 2006 but not paid until the new income year.

Writing Off Bad Debts

Where both STS and non STS small businesses operate on a non-cash basis and have previously included the amount in assessable income, a deduction for a bad debt can be claimed in 2005/06 so long as the debt is declared bad by 30 June 2006.

The business will need to show that it has made a genuine attempt to recover the debt by year end to prove that the debt is bad. Its important that this decision is made in writing (e.g. a board minute).

Note the business can claim back the GST paid on debts that have been written off as bad.

Prepayment of Expenses

• STS small businesses can claim an immediate and without limit deduction for prepayments that extend into the 2007 income year provided that the eligible service period does not exceed 12 months and ends no later than 30 June 2007. Subject to cash flow requirements, the most common expenses that an STS small business should consider prepaying by 30 June 2006 include lease payments, rent, business travel, insurances, business subscriptions, etc. Note that an immediate deduction for prepayments is not allowed simply where the STS small business makes a voluntary payment and there is no option or requirement under the contract for the payment to be made.
• Non STS small businesses may be able to claim a deduction for certain prepayments costing less than $1,000 GST exclusive. (e.g. Workcover premiums and motor vehicle registration).

Superannuation Contributions

The removal of the superannuation contributions surcharge from 1 July 2005 and changes announced in the 2006 Federal Budget have increased the incentive for business owners to put more money into superannuation.

• Both STS and non STS small businesses can claim a deduction for aged based limit superannuation contributions made on behalf of employees that have been paid by 30 June 2006. The aged based limits for 2005/06 are as follows:

• here the small business owner operates as a sole trader or in partnership the deduction is limited to the first $5,000 of contributions plus 75% of the contributions in excess of $5,000 and the person's aged based limit. Therefore to obtain the above aged based deductions, the person needs to make the following contributions by 30 June 2006:

Other Key Issues

• Where a private company provides loans to shareholders, a careful review of the loan arrangement must be undertaken as certain rules may deem the loan to be an unfranked dividend. It may be necessary to ensure appropriate loan agreements are in place and repayments are made.
• Where individuals incur losses from business activities, the non-commercial loss rules should be considered as such losses may not be eligible for offset against other assessable income during the year.

About the Author

Joe Kaleb is the CEO of www.australianbiz.com.au, a website that provides up-to-date tax information, management tools and other services to assist business owners to better manage their business and income tax obligations.