Tax Tip 195: How long can Tax Losses be carried forward?

Discussion in 'Accounting & Tax' started by Terry_w, 7th May, 2019.

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  1. Terry_w

    Terry_w Mortgage broker licenced 4 tax/legal advice Business Member

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    There is no time limit as to how long you can carry forward losses – whether income losses or capital losses, however they will be lost at death (a loss lost!). So, it makes sense that you should try to use up losses as early as possible. This is generally not too hard with income losses as these are easily eaten up the next financial year with more income being earned.

    Using up capital losses tends to be more difficult though as a capital loss can only be used up by a capital gain – not general income.

    Note that there are complex rules regarding companies and trusts in carrying forward losses.


    Example

    Homer invested money in a business he ran which failed. He lost $200,000 and has a $200,000 capital loss which he has been carrying forward for 9 years now. Homer would love to use this loss up, but the trouble is he has no other asset he could sell to offset the loss.

    If Homer owned shares for example he could sell shares with a $200,000 capital gain and not have to pay any tax.

    But losing his money has meant that Homer doesn’t have any capital to invest with.

    However, Homer’s daughter Lisa knows a thing or two so sets up a discretionary trust to hold investments. It could be possible that in future a gain from the trust could be distributed to Homer and his loss could offset this gain so that no tax is payable.
     
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  2. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Plus Member

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    One common mistake with carrying forward income tax losses is this one:

    In 2010 through to 2017 Jenny is non-resident and her IP losses have accumulated in her absence. Her loss is $18,500.

    In July 2017 Jenny returned to Australia and earned $14,000. No tax was withheld.

    Does Jenny need to lodge ? Yes
    What is Jenny's 2018 taxable income ?? Her $14K earning are first reduced by the losses BEFORE any tax free threshold is considered. her taxable income is zero. BUT her losses are now $4,500.


    Losses must be used PRIOR to tax free thresholds. If Jenny earned even $100 she must reduce her losses.
     
    Last edited: 7th May, 2019
  3. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Plus Member

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    Second common mistake concerns carried forward capital losses. These can ONLY be used to offset capital gains. But it comes with a catch and its quite common for DIY taxpayers. It can result in penalties.

    Jim has $12,000 of carried forward capital losses. In August 2017 Jim sold his CBA shares and made a discounted capital gain. His total profit was $20,000

    1. Jim must FIRST reduce the $20K by the carried forward losses; and then
    2. Jim can only then apply the 50% CGT discount to the final gain ie $20K-$12K = $8k x50%/ Therefore $4k is taxed.


    Many people think that the formula is to determine the discounted capital gain (ie $10K and then reduce this by the loss of $10K) so that Jim has a carried forward loss still available of $2k.

    Thats not correct.
     
  4. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Plus Member

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    Third common mistake. Discretionary trusts cannot distribute a loss. They can. It can be a CGT loss but not an income loss but some income losses can sometimes be distributed. Its quite complex and unless a tax adviser knows trusts and tax law well they commonly get it wrong. I have had to fix two new clients prior year tax for this very issue.

    Its a issue often requiring tax advice as there are traps. ie a Family Trust election maybe ? Resolution sand its commonly a issue for streaming to a specific beneficiary.

    Q : Can a Disc Trust with rental losses distribute a tax loss.? Unlikely. However if the trust has other forms of income its possible.
     
  5. Mike A

    Mike A Well-Known Member

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    I wouldnt define it as distributing a loss from the trust. Better phrased as utilising losses in the trust.
     
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  6. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Plus Member

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    There is a way a trust can distribute a loss. I did say its complex. Its actually reported that way in the tax return for the trust...

    The key catch is the trust must have $1 of net trust income to distribute. Then the various categories of distribution can include a loss in one category and income in another. In the trust tax return the Distribution Statement Item 55 includes labels for that purpose beside each category of income - a box where you can enter "L". I find accountants using some brands of tax software (MYOB products were poor at it) dont cater for the issue and when completing the distribution statement manually it seems illogical but is correct. Our Handitax does it automatically.

    eg Non-PP trading loss $10000, CGT gain $1,000 and Franked distributions $10,000. Net income = $1,000

    The beneficiary may (or may not) be able to utilise that loss. eg the non-pp loss could be a share of net rental losses together with franked investment income etc. Thats a common example.

    I just found a new client where the former tax agent didnt have a clue and they retained the loss element in the trust rather than pass it through as a element of net income. As a consequence the taxpayers overpaid tax. Not only that they made a fatal error in addressing that loss that net trust income in the accounts was then inconsistent with tax.

    All reasons why I recommend experienced practitioners in trusts as some tax advisers dont know trusts well. I count Mike in this group - He knows trusts well.