Tax planning is the professional art of balancing the relative tax and non-tax characteristics of different legal and tax entities including:
- tax treatments (degree of transparency, working capital retention, distribution splitting/streaming, entitlement to CGT discounts and concessions);
- progressive marginal and corporate tax rates;
- investment flexibility (capitalisation and financing);
- asset protection robustness (personal, corporate and intra-entity insolvency);
- business succession flexibility (third party or intergenerational transmissions);
- governance regulation (degree of contractual, statutory and governmental and professional supervision); and
- administrative and compliance complexity and cost.
Each legal and tax entity will have relative advantages, disadvantages and compromises.
Each entity type has its own complex and uncertain tax issues.
B. Freudenberg, ‘Tax on my mind: Advisors’ recommendations for choice of business form’, (2013) AT Rev 33 analyses practitioners’ recommendations for business structures. Interesting observations by Freudenberg are:
- total business forms are 36% sole proprietor, 27% companies, 24% trusts and 13% partnerships;
- <$10m business forms are 45% sole proprietor, 28% companies, 13% trusts and 14% partnerships; and
- >$10m business forms are 2% sole proprietor, 73% companies, 19% trusts and 6% partnerships.
- The 10 factors surveyed as important to selection of business form by Australian practitioners in successive importance are:
- asset protection;
- tax benefits/savings;
- business expansion;
- level of risk;
- limited liability;
- CGT concessions;
- succession planning;
- compliance costs;
- equity raising; then
- For small business owners the dominant objectives are control and management of the business, liability protection and minimisation of professional fees and tax liability.
- The ranking of a structure’s tax benefit effectiveness were:
- discretionary trust;
- unit trust;
- general partnership; then
- sole proprietor.
- In 2/3rds of circumstances, no formal advice was obtained by clients when setting up a business.
- Accountants were the most important class of paid consultants in the start-up phase.
- The significant focus on asset protection may be resulting in the use of concurrent business forms with adverse tax compliance costs and complexity.
- Nearly 70% of practitioners acknowledge that the business form recommended may be too complicated for the clients’ needs.
Board of Taxation
The Board of Taxation considers that the CGT treatment of different entities, the divergence of corporate and progressive tax rates, a revenue preference for taxing personal income and trust income streaming approaches result in policy distinctions or disconformities and increased complexity in the law (‘Post Implementation Review of Division 7A of Part III of the Income Tax Assessment Act 1936’, 20 December 2012 and 25 March 2014).
The Board of Taxation is considering how to address these issues in the Division 7A private company constructive dividend context.
Aligning tax neutrality of business forms is a whole of system approach. The extent to which Division 7A reform can and should addressing these underlying policy distinctions or disconformities depends on one’s political, social and functionary perspective and pre-disposition. These structural issues would be more appropriately addressed under the Tax White Paper review.
The Coalition’s announced Tax White Paper presents an opportunity to address these complexities from a structural perspective (The Coalition’s Policy for Small Business at  (August 2013)).
I consider the above findings raise a number of issues, including:
- If asset protection considerations are distorting tax structures leading to complexity, then reform of insolvency laws may positively reduce tax complexity.
- The CGT small business concession connected entity active asset test and the inconsistent CGT treatment of different entities significantly contribute to the use of concurrent business forms, so removal of these policy distinctions or disconformities may positively reduce tax complexity.
- The divergence of corporate and progressive tax rates, a revenue preference for taxing personal income and the imputation system and refund of imputation credit encourages retention and deferral of distributions of corporate profits through concurrent business forms, so removal of these policy distinctions or disconformities may positively reduce tax complexity.
- Addressing these sources of complexity will reduce the compliance burden and costs for all levels of taxpayers.
- Since 2/3rds of clients do not obtain formal advice when setting up a businesses, significant education of the business public will be necessary to influence structuring choices so the reforms achieve long term simplification of tax structures and reduce tax complexity.
- Since accountants are the main influencers of structures, focused education of accountants regarding the reforms and the benefits of simplifying structures should positively influence structuring choices and long term simplification of tax structures.
- The reforms should be coupled with improving access to CGT, depreciable asset and trading stock tax rollover relief and concessions to positively encourage consolidation of concurrent business forms to reduce tax complexity and taxpayer compliance costs.
- Unless the reforms address and more closely align the planning priorities of clients and of advisers, the potential of any reforms to reduce complexity of concurrent business structures will not be optimized.