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BULAW 5916 Taxation Law And Practice For IRAC Technique

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BULAW 5916 Taxation Law And Practice For IRAC Technique

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Course Code: BULAW 5916
University: Federation University

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Country: Australia

1. What factors affect the choice of a cash or accrual basis?2. Does Frank have a choice of the basis he adopts?3. Does the Commissioner of Taxation have a right to insist on a particular basis?4. Should Frank’s basis be the same in both years?5. Given the present availability of accounting software packages, in your view, is the traditional criteria for the cash/accrual distinction still relevant?
Frank Lloyd is trying to ascertain whether he shall file his return on cash or accrual basis
Rules applicable under the present circumstance
Let us first analyse the laws and sections applicable under the present situation,
Firstly, under the rules and regulation, an entity engaged in trading or non-trading activities may maintain its book of accounts under accrual or earning basis depending on limits or threshold. Further, the law gives privilege to small entities to take the advantage of maintaining books under cash or accrual basis if the specified threshold is not broken depending on relevant laws and circumstances. Thus, filing of return in Australia depends on law and relevant ruling encompassing the same.
Let us also analyse the meaning of both terms and implication of each term. Suppose, a company files its return on cash basis then he shall pay tax on the same only if he receives such income in the form of cash or bank deposit. Further, under accrual basis the revenue is booked in the book of account in the event of sale and tax is offered accordingly in return irrespective of receipt of such amount. Both methods have its own advantage depending on size of business and tax impact. Further, on basic glance cash method look better but the same has a drawback that on incurring of expenses the same  shall be taken in return when it is paid(Commonwealth of Australia, 2017).
Thresholds under the Act for maintaining Accrual Accounts
According to Australian Tax Office (ATO), the limits that have been specified w.r.t. small business operating in Australia for year 2017-18 is AUD 10 Million for maintaining books on earning or accrual basis. Further, for year2016-17, the limit has been specified at AUD 10Million in terms of Australian Tax Office.(Anon., n.d.)
Further, tax rate have been specified for small business entity (SBE) @ 27.5% for year 2016-17(Commonwealth of Australia, n.d.) while the tax rate specified for SBE in 2017-18 is similar to past year..(White, 2018)
Reference to Tax Rulings
To provide further insights on accrual or receipt basis, we need to analyse various ruling dealing with the same
Arthur Murray Principle
Principle that has been established under the said case:
Under the said case, the following matter has been highlighted:

The nature of income i.e. statutory income or ordinary income shall play a crucial role in determining the realisation of income in the return of a taxpayer. Further, for statutory income, the treatment is that the same shall be included in the assessable income in the return at the time as specified under the rules and regulation of ITAA, 1997. While, w.r.t. ordinary income the treatment is the same shall be included under assessable income of the taxpayer, when the same it is derived unless the same is asked to realised later by a specific provision under the Australian Income Tax Assessment Act.

For income in the nature of business income, the treatment of the same shall depend on the fact whether the tax payer maintains income on a cash or accrual basis. Accordingly, tax treatment of the same shall be carried out for cash basis cash return shall be filed and vice versa. Thus maintenance of books shall play a crucial role in maintenance of books.. Further, for accrual basis, the ruling also states that it is recognised when recoverable debt is established.(HBA Encompass Pty Ltd, 2014) 

Henderson Vs FCT(1970) 119 CLR 612; 70 ATC 4016; (1970) 1 ATR 596 and Henderson v. FCT69 ATC 4049; (1969) 1 ATR 133.
Principle that has been Established under the said case:
Under the said case, the following matter has been highlighted:
It was deliberated that whether the method of accounting used by the person filing the tax return is appropriate or not shall be a  matter of discussion point or decision making factor or the single  method/test that shall help in determining which system of accounting shall be followed. The ruling further states for any circumstance there shall be only one method of accounting shall be appropriate to one item and  there will be no alternative available to the person filing the  tax return.(Commonwealth of Australia, n.d.).
Firstenberg Vs FCT (1976) 27 FLR 34 at 58; 76 ATC 4141 at 4155; (1976) 6 ATR 297 at 314
Principle that has been Established under the said case:
Under the said case, the following matter has been highlighted:
It was deliberated that under certain circumstance and situation it shall be very difficult to decide or predict which method of accounting is appropriate, under such circumstance it shall be appropriate to use accounting method for filing return by the taxpayer. Thus, in case of uncertainty receipt method shall prevail over cash method of return. unless it is burdensome, artificial.(Commonwealth of Australia, n.d.)
CardenCase  (The Commissioner of Taxes (South Australia) v. The Executor Trustee and Agency Company of South Australia L (1938) 63 CLR 108 (C)
Principle that has been Established under the said case:
Under the said case, the following matter has been highlighted:
Under this ruling, it has been deliberated that it shall be the responsibility of a taxpayer to determine the income which is derived by adopting an appropriate method of accounting i.e. receipt or earning method.
Further, the method that is adopted by the taxpayer for filing of return under Australian Income Tax Act shall be shall be appropriate under the circumstance i.e. the method chosen must be in consonance with the situation.
Also, the ruling states that the method of accounting i.e earning or receipt adopted shall be appropriate if the method gives a substantially correct reflex of the income. The term in italics means those income which has come in the hands of the tax payer in realized form or in a realizable form during the captioned year.(Commonwealth of Australia, n.d.)
Thus, the following has been established under Carden case
The method chosen by the taxpayer shall reflect a correct reflex of income. It has been further decided by by Dixon J for non-trading income there should be some inflow or there shall be some receipt to lay down realizable or immediately realizable form.  
TR 98/1
Principle that has been Established under the said case:
Under the said case, the following matter has been highlighted:
Under the said ruling it has been deliberated that in relation to incomewhich has been derived by an individual solely by application of his knowledge or skill as a part of service rendered by the tax payer. The said income of such taxpayer may be taxable on receipt basis  and not on earning basis
It has been further highlighted that aforesaid advise shall not hold good or be not applicable if the said income comes from too much reliance on workers and machinery or tools.(Commonwealth of Australia, n.d.)
Present Case
Under the existing case, Frank Lloyd has been rendering personal service as an architect. Lloyd work is primarily concerned with building designs and specifications. For the year 2016-17, Frank had a very small client base with a turnover of AUD 75,000. Thus, the turnover did not exceed AUD 10 Million in 2016-17. Further, the services involved knowledge and application of skill. Thus, the income from the same shall be taxable on receipt basis as laid down in the ruling TR98/1 and other relevant case law stated above.
Further, w.r.t. 2017-18 there has been a drastic increase in the turnover of Frank Lloyd and Frank has hired workers and machinery to build the structure awarded to him by involving men and resources. Thus, he is placing reliance on men and machinery to produce income for 2017-18. In addition, during the year under consideration Frank has engaged himself in constructing the required structure, the same shall to trading income and correspondingly the said income shall be charged to tax on earning method as laid down under TR 98/1
Also, it shall be pertinent to note that factors that shall affect method chosen includes

Impact in tax terms;
Accounting issues;
Excellence of managers

Since Frank Lloyd, has hired two administrative staffs during 2017-18 accrual method shall be the chosen method
Conclusion reached
For 2016-17 year Frank may follow Cash or Earning method while for 2017-18 only receipt method
Also it should be noted that the commissioner of taxation may insist on earning basis of returns when commissioner finds that the amount of tax impact by cash method is substantial and the tax payer has been trying to postpone his income.
No, Lloyd shall not use the same method in both year.as under the existing scenario there has been drastic change and it shall be burdensome and impractical on the part of the tax payer to follow the same. Accordingly, tax payer shall follow the different method.
Further it shall be pertinent to note that the system is still important as the same has bearing on taxes of an individual. Also, a tax payer may defer his income by following a particular method of tax accounting i.e. receipt or earning. Although, there are various software available in the market and both cash and accrual accounting has been integrated into one in such software yet the difference shall always be significant from tax point of view.
Further for computation of taxation the same can be computed once details of expenditure is provided.   
Issue: Deduction of expenditure incurred  for repairs.
Rules& Analysis
For this purpose, let us analyse Section 8-I(1) of Income Tax Assessment Act, 1997  where in it has been stated a taxpayer shall deduct expenses from their taxable income for a captioned year to the extent the same has been expended for the purpose of earning such income or producing such assessable income.
Further in term of Section 8-I(2) of ITTA, a loss or outgoing expense shall be disallowed to the extent that is capital in nature or  the same has been used for private or domestic use . The law also states that further expenditure incurred towards earning the income which is exempt under the act or the same has been prevented from deduction by a specific provision under the Act shall not be allowed
On the basis of above, it may be understood that if the expenditure on account of repair is treated as revenue expense in the books than the same can be claimed as revenue expense in the return by the taxpayer. Also, in terms of section 25-10 of ITAA 1997, a taxpayer shall be entitled to deduction for repairs to premises or assets of depreciable nature.
Further under the local dictionary the term repair shall mean remedying a defect in a property and accordingly the same has been held to be deductible in the case of LurcottWakely and Wheeler (1911) 1 KB 905. Accordingly, the said expense is tax deductible.
An alternative view may be take that the expenditure incurred on account of repair is of capital nature as the fitting life shall exceed one year and same may be depreciated. Also it may be held that there has been no repair but replacement of old asset with new one. Accordingly, the same may be treated as capital expense depending on treatment under the books. The same was held in case of :Lindsay v FCT (1961) 106 CLR 377(CCH Australia Limited., 2018)
Thus, the expenditure incurred on account of repair shall depend on accounting treatment in the books .   
Issue: Deductibility of Legal expense of AUD 7000 incurred;
Rules and Analysis
By referring to the sections stated above and it shall be important to note that in terms of FCT v Snowden &Willson Pty Ltd (1958) 99 CLR 431 wherein it has been held that expenditure incurred by business to defend or save reputation shall be allowable as deductible.
Further, the said expenditure is related to assessable income and the amount has been incurred to defend assessable income.
Thus under the present circumstance, (Commonwealth of Australia, n.d.) the expenditure incurred by the taxpayer shall be allowed as deductible. Further reference may be had to the judgement of Herald and Weekly Times LtdvFCT(1932)48CLR113 where in similar views have been held.
Issue: Claim for damages deductibility
Rules and Analysis
By referring to the sections stated above and reliance may be placed on the judgement of Herald and Weekly Times Ltd v FCT (1932) 48 CLR 113 where in it the Commissioner held that expenditure incurred on account of settlement of damage claims shall be tax deductible. Accordingly, the taxpayer shall deduct the same. Since the said expense has nexus with generation of assessable income.
Issue: Can deduction be made for provision for future claims
Rules and Analysis
On the basis of relevant sections of ITAA,1997 it shall be deduced that the expenditure incurred in actual on legal disputes and damages shall only be allowable as deduction.
Thus, the provision made by the taxpayer for the said expenditure shall only be allowed once the same is crystallised and shall not be tax deductible under general or specific provisions of Income Tax Assessment Act, 1997.
The said expenditure is disallowed.
Issue: Deductibility of expenditure incurred towards feasibility studies.
Rules and Analysis
By referring to the sections stated above and reference may be had to the judgement of Softwood Pulp and Paper Ltd v FCT 76 ATC 4439 where in it has been held that the expenditure or losses that have been incurred prior to setting up of business or any income producing activity may not be allowed as tax deductible in terms of Division 8. Thus, the same may not be allowed as general deduction.   
Not Allowable
Anon, n.d, TAXATION OF PAYMENTS OF DAMAGES AND COMPENSATION., [Online] Available at: https://www.deverslist.com.au/Taxation%20of%20Payments%20of%20Damages%20and%20Compensation.pdf[Accessed 5 September 2018].
CCH Australia Limited., 2018, LINDSAY v. FEDERAL COMMISSIONER OF TAXATION, High Court of Australia, 14 December 1961, [Online] Available at: https://iknow.cch.com.au/document/atagUio2679067sl706100838/lindsay-v-federal-commissioner-of-taxation-high-court-of-australia-14-december-1961[Accessed 10 September 2018].
Commnwealth of Australia, 2018, Changes to company tax rates, [Online] Available at: https://www.ato.gov.au/Rates/Changes-to-company-tax-rates/[Accessed 10 September 2018].
Commonwealth of Australia, 2017, Choosing an accounting method, [Online] Available at: https://www.ato.gov.au/Business/GST/Accounting-for-GST-in-your-business/Choosing-an-accounting-method/[Accessed 10 September 2018].
Commonwealth of Australia, n.d, Deduction: legal expenses – landlord defending a damages claim in respect of injuries suffered by a third party on their rental property, [Online] Available at: https://law.ato.gov.au/atolaw/view.htm?docid=AID/AID2003484/00001[Accessed 10 September 2018].
Commonwealth of Australia, n.d, Deductions and expenses: reimbursement to trust account of stolen trust monies, [Online] Available at: https://law.ato.gov.au/atolaw/view.htm?docid=%22AID%2FAID2010207%2F00001%22[Accessed 10 September 2018].
Commonwealth of Australia, n.d, Discharge of debt arising from the provision of services – changing from cash to accruals accountin, [Online] Available at: https://law.ato.gov.au/atolaw/view.htm?docid=%22AID%2FAID20141%2F00001%22[Accessed 10 September 2018].
Commonwealth Of Australia, n.d, Law Companion Ruli,. [Online] Available at: https://www.ato.gov.au/law/view/document?DocID=COD/LCR2018D7/NAT/ATO/00001&PiT=99991231235958[Accessed 5 September 2018].
Commonwealth of Australia, n.d, Small business entity concessions, [Online] Available at: https://www.ato.gov.au/Business/Small-business-entity-concessions/[Accessed 10 September 2018].
Federal court of Australia, 2014, Deductions – Revenue v Capital,[Online] Available at: https://www.fedcourt.gov.au/digital-law-library/judges-speeches/justice-logan/logan-j-20141106[Accessed 10 September 2018].
HBA Encompass Pty Ltd, 2014, Deferring Assessable Income, [Online] Available at: https://www.hbaencompass.com.au/deferring-assessable-income/[Accessed 10 September 2018].
White, A, 2018, Corporate tax rate cut – passive income exclusion, [Online] Available at: https://www.greenwoods.com.au/insights/riposte/20-september-2017-corporate-tax-rate-cut-passive-income-exclusion/[Accessed 10 September 2018].

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