Tax Tip 253: Income Timing Strategies with Companies

Unlike trusts or sole traders a income of a company can be managed so it comes out in different tax years to that when it is earned. This can allow tax savings to occur.

A company will pay tax at a flat rate of 30% or 27.5% if it is conducting a business. It can pay wages to staff and/or dividends to shareholders. Shareholders of a company could include trustees of discretionary trusts, individuals or other companies.

Here are some examples of the use of timing to save tax.

Example 1

Bart wants to start a business so sets up a company to operate under. There are various reasons why he does this, but that is a question for another day.

When a business is set up there are lots of new expenses and usually little income in the first year or so.

Around June Bart realises that the company will not make any money. Bart quit his job last July so his taxable income has been $0. Instead of wasting his tax free threshold Bart can cause the company to pay him a wage of about $22,000 so that he will pay almost no tax. The company will get a deduction for this as it is a business expense. The company may not have any money so it could borrow to pay expenses such as wages.

Had Bart been a sole trader there would have been no ability to do this.


Example 2

Bart’s company is up and running. The company is making lots of money so Bart takes a wage of just $90,000 and lets the profits accumulate in the company. The profits will be taxed at 27.5% while Bart will cap his marginal tax rate at 32.5% plus Medicare levy.

Later Bart’s children reach the age of 18 – twins – and at this point Bart causes the company to pay a dividend of $40,000 to the shareholders. There is one shareholder which is the trustee of a discretionary trust. Bart controls this trust and causes $20,000 in income to go to each child who pay no tax.


Example 3

Bart’s wife, Millhouse, is employed by the company and is on $90,000 as well. Millhouse will see an investment property next financial year so Millhouse resigns so he doesn’t receive an income other than the capital gains. The following year the company re-employs Millhouse. Or perhaps it might have granted him a 1 year leave without pay. This way Millhouse saves tax. What he would have been paid stays in the company.

This could have been done as a sole trader too. But if it was Bart that wanted to sell an investment property and take a year off work this strategy would not be possible as the sole trading entity is Bart.


Example 4

In addition to the business being operated by a company Bart also has set up a trust which invests in shares. To avoid paying more tax, and to allow for greater compounding, Bart causes the trust to pay its income to another company, a bucket company. This saves tax now but the money of the bucket company could potentially come out by it paying a dividend after Bart has retired and sold the business. Bart will even get a credit for the amount of tax paid by the bucket company.

 

Who should own the bucket company?

 

Specific legal advice should be sought on that

see
Legal Tip 131: Estate Planning Implications of Bucket Companies Legal Tip 131: Legal Tip: Estate Planning Implications of Bucket Companies

Legal Tip 195: Multiple Bucket Companies as an Estate Planning Strategy Legal Tip 195: Multiple Bucket Companies as an Estate Planning Strategy

Legal Tip 196: Strategy: Personally Owning the Shares of a Bucket Company Legal Tip 196: Strategy: Personally Owning the Shares of a Bucket Company

 

Hi Terry,

Could multiple bucket companies also be used as an effective strategy for avoiding the PAYGI Quarterly tax instalment system. For example, once a company has made a taxable profit in a tax year, they will enter the PAYGI instalment system for quarterly income tax instalments in the next tax year. But if you distribute the income to a different bucket company (company 2) the next year, you can vary the instalments on company 1 to zero and effectively delay paying tax on the distributed income until May 15 the following year. Rinse and repeat. Or would this be caught under Part IV A anti tax avoidance?

 

Yes I think that could work. There is no tax advantage, just a delay in payment. get specific advice

 

yes cash flow advantage perhaps but tax will still be the same in the end.

 

Depends on the case. If the company was paying a FF div (through a trust which this question implies applies) then there may be no need to pay instalments since no additional tax is due.

Trading Company >>>DT >>>> Bucket Company type structure may allow the bucket company to be more in the nature of an investment vehicle and allow cash to leave the trading entity without Div 7a issues and be better asset protected without a tax issue even arising. A creditor of trading Co cant chase a shareholder OR a subsequent trust beneficciary and it may even be practically difficult for a liquidator to challenge where Trading co pays a valid dividend based on s254T of the Corporations Act. In this case Bucket Co would receive a FF distribution for the trust and have no further tax implications. Any investment income earned by bucket co is also taxed as a lesser tax rate than a high marginal taxpayer. Bucket Co could later pay a Dividend to mum or dad to get refundable franking if able. Or the trust could do so. Trust could also split into several bucket companies eg a property one, a investment one, a qld land tax one etc