The $20,000 question

2nd June, 2015

Small business was definitely a winner in last month’s federal budget. The talk of the town for small business has been the instant tax deduction for asset purchases of up to $20,000, effective immediately. However, before you go out on your spending spree, there a few things you will need to consider.

The basics: How the $20,000 deduction works

The tax deduction is only available to eligible small businesses that have aggregate $2million or less sales per annum. With this tax break effective immediately, eligible small businesses will be able to make purchases before June 30 2015 to reduce this year’s tax liability. This is not a one-off tax break; all purchases that meet the tax requirements until June 30 2017 will qualify.

The ATO have noted that they will be watching all who claim this tax deduction, so you should be careful about how you leverage it. Firstly it only applies to assets purchased to the total value of $20,000, so if you purchase new equipment that needs installation, the installation costs will be included in the value of the asset purchase. Any assets purchased for a total value over $20,000 will not qualify for the immediate deduction and will be depreciated over the life of the asset in line with current tax regulations. Secondly you must have business activity to qualify — not just an ABN.

READ: Instant write-off for small business assets under $20,000: How does it work?

Use it wisely

What is most important about this tax break is that you still need to be commercial in your decisions. Remember that you will firstly need to have the available funds to purchase the assets. Secondly this incentive only gives your business a tax deduction of 30 percent (28.5 percent after June 30 2015) of every dollar spent on the asset purchase.

Of course I don’t want to rain on your parade (or this incentive), but realistically it should only benefit those businesses in need of new assets or upgrades. If this is your business, you are in luck. So, what should you be buying? Assets are the fuel that runs your business, so you should be looking to invest wisely. Make sure your purchases align with the overall plan of your business and your growth strategies. It may be time to upgrade your technology, tools of your trade, or those higher value assets that you may have been postponing. Purchase items that will directly and positively impact profit.

Where can you go wrong?

Rushing out to buy new assets before doing the numbers could spell disaster. You should take a good look at what you are buying and what benefit it will bring to your business. For example, buying a new car also brings additional expense to the business that will eat into your cash flow, such as fuel and maintenance costs. Of course, if the new vehicle allows you to make more deliveries and increase sales, then this may be money wisely spent. Make sure you do the numbers before you spend hard earned cash just to take advantage of any tax incentive.

Let’s look at an example

Hanna’s taxable income for year ended June 2015 will be $150,000. Under current tax rates, her company tax payable will be 30 percent, which equates to $45,000. Her net profit after tax therefore will be $105,000.

In July 2015 she buys a new vehicle, estimating this will increase her revenue and result in a 10 percent increase in taxable income for the 2015/16 financial year. With her new taxable income at $165,000, company tax payable under the new rate of 28.5 percent will be $47,025, leaving the business with a net profit after tax of $117,975. However, the taxable income will be reduced by the $20,000 she able to claim on the vehicle, making her new taxable income $145,000. Company tax payable at 28.5 percent equals $41,325, resulting in a net profit after tax of $103,675.

  Tax Rate Taxable Income Tax Payable
2014/15 30% Taxable Income:$ 150,000 $ 45,000
2015/16 28.5% Taxable income without car purchase: $150,000 $ 42,750
2015/16 28.5% Taxable Income after vehicle purchase:($ 165,000  – $ 20,000)=$ 145,000 $ 41,325
    ($ 42,750 – $ 41,325)= $ 1,425 savings on tax payable with car purchase.

 What do these numbers really mean?

Firstly, if she did not buy the car and her taxable income remained at $150,000 on the new tax rate for 2015/16, she would pay approximately $42,750 in tax: $2,250 less than 2014/15. If she goes ahead and buys the car, then her taxable income will reduce to $145,000 after making the full tax deduction of the car; however, her tax payable will only reduce from $42,750 (based on $150,000 taxable income) to $41,325 – a saving of only $1,425. However, $20,000 plus additional vehicle expenses will have eaten into the business cash flow. Another consideration is that reducing your taxable income can affect your credit standing if you are looking to borrow funds in the future. You may also need to check any terms and conditions you currently have with your bank on minimum taxable income

Whatever you decide to do, make sure that you meet all the qualifying requirements, and have enough funding in the business to support the purchases. You should never make a business decision based solely on tax regulations — ensure your purchases will support your business objectives.