Topic 1

Overview of the Australian

Income Tax System

TOPIC 1
LEARNING OBJECTIVES
• Discuss taxation and why it is necessary

• Identify sources of Australian taxation law

• Summarise differences between accounting and taxation

law

• Identify the Taxation Formula & Income Tax Rates

• Distinguish between Australian resident and foreign

resident taxpayers

• Identify sources of income

TOPIC 1
Discuss taxation and why it is necessary

The purpose of Tax:

Public Goods: the market is unlikely to provide

Merit/Demerit goods: beneficial/detrimental to

the user

Economic Stabilisation: economic growth,

inflation, unemployment, smooth economic cycles

Distributive and redistributive function: support

TOPIC 1
those not provided for by the free market
Identify sources of Australian
taxation law
Legislation:
Range of Statutes that we will deal with throughout
• Legislation the course.
1
Case Law:
• Judicial precedent or decisions used effect future
• Case law cases
2
• How binding the precedent depends on the level of
the court
• Practice of tax law by rulings issued by
3 the Commissioner of Taxation
ATO Rulings:
• Private rulings
• Public rulings

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BASIC OPERATION OF
TAXATION LEGISLATION

Australian Taxation System

Rates & Other
Income
FBT GST Administration Income Tax
Tax
Provisions

A New Tax
System
Taxation Administra
Fringe A New Tax Taxation Inspector (Medicare
Administra tive Tax Agent Income Medicare
Benefits System Administra General of Levy
ITAA 1997 ITAA 1936 tion Appeals Services Tax Rates Levy Act
Tax Act (GST) Act tion Act Taxation Surcharge
Regulation Tribunal Act 2009 Act 1986 1986
1986 1999 1953 Act 2003 – Fringe
s 1976 Act 1975
Benefits
Act 1999

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ORDER OF APPROACH

3. FRINGE BENEFITS TAX

• Employment Relationship?
• Benefit Provided/Received?
• Does an exemption apply?
• FBT RETURN
4. INCOME TAX
• Residence/Source/Timing
2. GST • Income (Ordinary/Statutory)
• Enterprise being • Does an exemption apply?
carried on? • Deduction (General/Specific)
• Does a provision deny a
• Registered or required deduction?
to be registered?
1. TRANSACTION
• GST paid or collected?
OCCURS
• BUSINESS ACTIVITY
STATEMENT

5. CAPITAL GAINS TAX

6. INCOME TAX • Has a CGT Event occurred?
• Is there a CGT Asset?
RETURN • Does an exemption apply?
• Special calculation rules/options

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Summarise differences between
accounting and taxation law
Interpretation of financial accounting standards is
different to tax legislation:

Financial accounting Taxation law

standards legislation

• Interpreted with the aim to • Interpreted based on the

ensure the firm’s economic “doctrine of precedent”
position is recognised on a
prudent and conservative
basis

The 5 major technical differences between tax law and accounting are
discussed in some detail in Chapter 1 of the text.

TOPIC 1

PoTL
paragraphs [1.30] – [1.40]
Summarise differences between accounting
and taxation law
Accounting income can be categorised into three boxes for income tax purposes:

Accounting
income

Other
Ordinary income Statutory income
gains

Not recognised by the

Recognised by the Amounts received that
courts as income but
courts as income, eg, are neither ordinary or
subject to tax by
salary, proceeds from statutory income,
legislation,
sale of trading stock. eg, gifts.
eg, capital gain.
TOPIC 1

PoTL
paragraphs [1.150] – [1.160]
Discuss study skills and use of the text book

*The text
1. 2. 3. 4. 5.
indexes refer to
paragraph
numbers NOT
Research
page numbers
relevant Use additional
legislation and resources:
Understand the cases Apply the law to
question & the
the problem
facts
Use the topic
Australian
index at the back
Master Tax Guide
of the book Form a
conclusion on
Use the Case the issues
Identify the Table at the Legislation
topic area & front of the book Reference only
taxation law to relevant
issues the legislation, cases
question refers Use the Statute & tax rulings
to Table at the ATO website
front of the book

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Introduce the Taxation Formula &
Income Tax Rates

INCOME TAX must be paid on TAXABLE INCOME

derived by the taxpayer during the income year

• Income tax is payable each year by each individual and

company, and certain other entities: s3-5 ITAA97.

• Calculation of a taxpayer’s income tax liability for the

financial year is based on the formula in s4-10 ITAA97
TOPIC 1
Introduce the Taxation Formula &
Income Tax Rates

ASSESSABLE ALLOWABLE TAXABLE

INCOME DEDUCTIONS INCOME

Income Tax Taxable Other Tax Offsets

Rate
Payable Income Levies & Credits

TOPIC 1
Introduce the Taxation Formula &
Income Tax Rates

Assessable Ordinary Income

Income Statutory Income

Ordinary • Assessment of gains that have an income

character as set out in the doctrines that
income have been developed by the courts.
(s 6-5 ITAA97) • Referred to as “ordinary concepts”.

Statutory • Assessment of amounts by a specific

provision in the income tax legislation.
income • Division 10 lists the statutory income
TOPIC 1 (s 6-10 ITAA97) provisions in the income tax legislation.
PoTL paragraphs [3.150] – [3.160]
Introduce the Taxation Formula &
Income Tax Rates
Exempt income
• Income that is specifically made exempt (ie non-taxable) by the
income tax legislation – list in Subdiv 11-A
• Two classes of exempt income:
• Entity is exempt (s 11-5), eg charitable organisations
• Income is of a kind that is exempt (s 11-15), eg certain education
scholarships.

Non-assessable non-exempt income

• Another category of income
• Not assessable even though they are not specifically “exempt
income”
• List in Subdivision 11-B.

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PoTL paragraph [3.170]

Introduce the Taxation Formula &
Income Tax Rates

Applicable • Applicable rate of income tax depends on the type of taxpayer

• Rates are based on the Income Tax Rates Act 1986 and may

rates change from year to year

Taxpayer • Companies
• Individuals who are Australian residents

types include: • Individuals who are foreign residents

• Flat rate structure

• General corporate tax rate: 30% of taxable income (TI)

Companies • Companies that are ‘small business entities’: 26% of TI for 2020/21
and 25% of TI for 2021/22 and subsequent years

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PoTL paragraphs [3.190], [3.210]

Introduce the Taxation Formula &
Income Tax Rates
•2020-2021 RATES FOR RESIDENT TAXPAYERS
•Progressive tax rate structure
•Tax burden increases as the individual’s taxable
income increases
Taxable income Tax on this income
0 – $18,200 Nil
$18,201 – $45,000 19c for each $1 over $18,200
$45,001 – $120,000 $5,092 plus 32.5c for each $1 over $45,000
$120,001 – $180,000 $29,467 plus 37c for each $1 over $120,000
$180,001 and over $51,667 plus 45c for each $1 over $180,000

The above rates do not include the Medicare levy of 2%

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PoTL paragraph [3.200]

Introduce the Taxation Formula &
Income Tax Rates
•2020-2021 RATES FOR FOREIGN RESIDENT TAXPAYERS
•Progressive tax rate structure
•Tax burden increases as the individual’s taxable income increases

Taxable income Tax on this income

0 – $120,000 32.5c for each $1
$120,001 – $180,000 $39,000 plus 37c for each $1 over $120,000
$180,001 and over $61,200 plus 45c for each $1 over $180,000

Non-residents do not pay the Medicare levy

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PoTL paragraph [3.200]

Introduce the Taxation Formula &
Income Tax Rates

Australian tax system is also a collection

mechanism for other amounts payable
by Australian tax residents.

• Medicare levy
• Medicare levy surcharge
Examples: • Repayment of higher education debts (Higher
Education Loan Program, known as HELP).

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PoTL paragraph [3.40]

Introduce the Taxation Formula &
Income Tax Rates
Basic levy payable:

Medicare Taxable Income 2%

Levy

Certain individuals are exempt from the Medicare

levy, examples include:
• Foreign residents
• Persons not entitled to Medicare benefits in respect of
services, treatment or care (exemption certificate required).

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PoTL paragraphs [3.50], [3.70]

Introduce the Taxation Formula
& Income Tax Rates
• Medicare Levy applies to individual taxpayers
• Low income earners may be fully or partially exempt

• 2020/21 thresholds:
Situation Threshold amount Phase-in limit
Individuals entitled to Seniors & $36,056 $45,069
Pensioners Tax Offset

All other taxpayers $22,801 $28,501

(excluding families)

• Where taxable income is > “threshold amount” but < upper “phase-in
limit” threshold
• Medicare Levy = 10 cents for every dollar above the lower “threshold
TOPIC 1 amount”
Is the taxpayer a resident for tax purposes?
Residence & Source
Income Year – The
income year is the same
as the financial year &
runs from July 1 to 30
June. In some
circumstances
substituted accounting Resident – you need to
Derived – when is periods may be used. ascertain if a taxpayer is
income derived (earned),
a resident or non-
which income year does
resident of Australian for
it fall into?
income tax purposes.

S6 ITAA36 Key Source – What is the

Terms: Read source of the income?
Gross Income – income
from all sources. sections 6-1 & Inside or outside
6-5 from the Australia? Why is this
important?
legislation

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Distinguish between Australian
resident and foreign resident
taxpayers

Is the taxpayer a resident of Australia?

Individual Company

4 tests of residence: 3 tests of residence:

1. Ordinary concepts; 1. Place of incorporation;
2. Domicile; 2. Central management
3. 183-day test; or and control; or
4. Superannuation test 3. Controlling shareholders

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PoTL paragraphs [4.10], [4.40]

Distinguish between Australian resident and foreign
resident taxpayers

PERIOD OF RESIDENCE: a person may be resident for a whole or

part year, depending on the residency test used:

Test Residency Period

Resides (ordinary Commences from the date when the person first
concepts) resides in Australia

Domicile Resident for the days when in Australia

183-day test Taken to be a resident for the whole year

• Tax free threshold in the individual progressive income tax rates

is pro-rated for the residency period.

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PoTL paragraph [4.145]

What is the source of income?
Identify sources of income

SOURCE IS A QUESTION OF ‘WHERE’ THE INCOME WAS EARNED…

• Nathan v FCT (1918) – source is a question of fact.

Personal employment and services income

• FCT v French – source is where work is performed

• However, see exception in FCT v Mitchum where work could be done anywhere

Interest income

• Where contract is made

Dividends

• Depends on source of profit

Property

• Where the property is located

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Identify sources of income

SOURCE IS A QUESTION OF ‘WHERE’ THE INCOME WAS EARNED…

When considering business income there are 3 significant factors:

• Where the work is performed
• Where the contract is signed
• Where the payment is made
• You may need to identify the most significant of these factors.

Services
• where the work is performed.

Sale of Goods
• where the trading activities take place. If a number of activities located in different places, income may need to be
apportioned.

Real Property
• where property (land) is located.

Intangible property
• where the contract is signed is often the most significant.
TOPIC 1
Summary
• Discuss taxation and why it is necessary

• Identify sources of Australian taxation law

• Summarise differences between accounting and taxation

law

• Identify the Taxation Formula & Income Tax Rates

• Distinguish between Australian resident and foreign

resident taxpayers

• Identify sources of income

TOPIC 1