We are coming up to the end of financial year and so as with every other year, we will start to see businesses advertising that you need to buy their product before June 30 so that you can write it off and save yourself some tax dollars. They will use phrases such as “Fully Tax Deductible” and “100% Tax Deduction” to make it sound like you would be crazy not to buy up big.
So what does that really mean?
By using those phrases they are trying to hint or suggest that you will get most, if not all of that money back at tax time. Basically, they are hoping you think that it is better to purchase that shiny new car than just give that money away to the ATO at tax time. I’ve met many people who believed this was the case and others that weren’t certain about how it affected their tax position so let dispell the myths.
For starters the government is not going to fund your end of year spending spree. For 2017/2018 most Australian businesses (those with a turnover of less than $25M) will be taxed at a company tax rate of 27.5%, so I will base my examples on that rate. The easiest way to think of it is that for every (ex GST) dollar your business earns as income, it will need to give the ATO 27.5% of that revenue and for every ex GST dollar it spends, it will reduce its income tax by 27.5% of that purchase. The other 72.5% is either retained or spent by the business itself.
So if you spend $10,000 (ex GST) on business expenses you will get a $2,750 credit on your income tax bill, meaning that you have still spent $7,250 of your businesses own money. Every time you spend money you can do this sum in your head to see what the actual cost to your business is.
Here is a good, simplified example of income and spend and the effect on your income tax;
| Description | Total | Less GST | Net | 27.5% Tax | Net After Tax |
| Income | $110,000 | $10,000 | $100,000 | $27,500 | $72,500 |
| Less Expense | $44,000 | $4,000 | $40,000 | $11,000 | $29,000 |
| Total | $66,000 | $6,000 | $60,000 | $16,500 | $43,500 |
If we assume that the above table was a profit and loss for the month of June in your business, you could easily think that you have made $66,000 in profit whereas in reality you have made $43,500 in profit because you need to pass on $6,000 in GST and you will pay $16,500 in Income Tax for that project at tax time.
So if you believed that spending $40,000 at end of year was going to reduce your tax bill by that exact amount then you can see here that you have only reduced your tax bill by $11,000 and the business still had to fund $29,000 of that spend from its after tax revenues.
When an advertisement says “Fully Tax Deductible” they really mean that you will be able to claim the full amount to reduce your net taxable income, it will not reduce your tax bill by the full amount spent.
The moral of the story is that if you don’t need to make that purchase in the course of operating your business, or you are not willing to fund the remaining 72.5% of the purchase, then don’t spend the money and retain the funds in your bank account.
This article is designed to offer insight into how income tax works. It is not specific advice and should not be relied upon solely to make business or financial decisions. If you are unsure about Income Tax calculations then please contact your accountant for further advice that will be specific to your situation.
