Professional practices
and income splitting –
The ATO “draws the line”
SPRING 2014
This edition
3
SMSFs and bankruptcy
Privacy and security for smaller
organisations in the digital age
4
5 CPN Specialist Query refresher
6
Events to watch out for...
On 1 September, the Australian Taxation Office (ATO) released
guidelines concerning income splitting for professional practices
and their owners for 2014/15 and later years, subject to ATO
review in 2016/17.
Professional practices potentially impacted include accountants,
solicitors, architects, financial planners, engineers, medical
practices, etc.
Flexibility of practice structure
From the ATO’s perspective, the professional practice can be conducted
from any legal structure, be it a partnership, trust, or company, and
there is also no restriction on the owner’s structures.
Relevant structures would have to continue to be legally effective and
meet professional body requirements.
Ability to income split – practice owners
Sole practitioners with no employees are not permitted to split income
derived from their own personal exertion.
However, where income is derived from the “business”, rather than an
individual’s personal exertion, the ATO will tolerate income splitting
within certain limits. As a rule of thumb, if a practice is of a size where
there are at least as many employee fee earners as practitioner equity
participants (practitioners who have equity or whose associated
entities have ownership in the practice), income will be taken to be
derived from the “business” and may be split with certain limits.
Practitioners associated with owners of the practice will not be subject
to ATO review or audit, so long as a certain level of income derived from
the practice is included in their personal tax returns, under one of the
three tests. In short, it doesn’t matter how the income from the firm
gets to the practitioner, as long as it gets there. It can be paid by way
of salary, distribution of partnership or trust profit, distributions from
associated service entities, dividends from associated entities or any
combination of these.
In our view, the Commissioner’s approach that a certain amount of
business income relates to personal exertion and needs to be assessed
to the practitioner personally, is incorrect at law and is not supported
by any legal precedent. However, by complying with the guidelines,
a practitioner avoids an ATO review, or the Commissioner testing his
approach in Court.
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Critical Point Network
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Professional practices and income splitting – The ATO “draws the line”
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The three tests
To satisfy the guidelines and avoid an ATO review on this issue, the
income returned by the practitioner (associated with the professional
practice owner), must be at least:
• The level of remuneration paid to the highest band of professional
employees providing equivalent services to the firm. That is, you
take an average of that band on a full-time equivalent basis, or
if there are no such employees in the firm, comparable firms or
relevant industry benchmarks – for example, industry benchmarks
for a region provided by a professional association, agency or
consultant; and/or
• 50% or more of the practice income (including that from entities
associated with the practice such as service trusts) to which the
practitioner and his or her associated entities are collectively entitled
(whether directly or indirectly through interposed entities); and/or
• The practitioner and his or her associated entities both have an
effective tax rate of 30% or higher on the income received from
the firm (including income from associated entities such as the
service trust).
Only one of the above three tests needs to be satisfied.
These tests are applied at the “equity” practitioner level (not to the
practice), so the test that one practitioner may satisfy can differ from
his/her fellow practitioner/partners. In addition, these tests apply on a
year by year basis, so a different test can be chosen each year.
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Critical Point Network
Whilst the three tests are not law, they will be used by the ATO as a
tax audit case selection tool. Should a practitioner wish, he or she
could legitimately operate outside the guidelines, but they would then
potentially face the risk of an ATO review or challenge.
Where none of the guidelines outlined above can be satisfied, the
practitioner will be at higher risk of an ATO review. The further
away the practitioner is from the three tests, the greater the chance
of review.
Conclusion
For almost 15 years, Pitcher Partners has been actively involved
in consultation with, and at times at odds with, the ATO over its
treatment of professional practices. These guidelines are, in our view, a
step in the right direction.
Whilst these guidelines still discriminate between professionals
and other businesses, they should allow practices more certainty in
their decisions around structuring, restructuring and remuneration
of owners.
Mark Northeast
Executive Director – Tax Consulting
Telephone (03) 8610 5204
SMSFs and bankruptcy
All of the monetary penalties in Section 126K are “strict liability”
provisions. This means the regulator only has to prove the offence
occurred for the penalty to be imposed. There is no need to prove the
bankrupt’s intention or purpose in failing the provision, only that the
failure happened.
Often the impact of a person’s bankruptcy on their
superannuation entitlements is overlooked with potentially
severe ramifications. Bankruptcy law allows a trustee
in bankruptcy to access some or all of the bankrupt’s
superannuation entitlements. However, we will focus on
law that adversely impacts the bankrupt as a self-managed
superannuation fund (SMSF) trustee and in the SMSF itself.
For the purposes of ceasing to be a trustee and reporting to the
Regulator, the operative date is the Date of Bankruptcy. This is
when AFSA receives and accepts the creditor’s petition for voluntary
bankruptcy and the date of the Court making a Sequestration Order for
involuntary bankruptcy.
Section 206B of the Corporations Act disqualifies an undischarged
bankrupt from managing a corporation. Section 206A(1) says a
bankrupt commits an offence if they participate in decisions about
management of the whole or a substantial part of the business of the
company. This is also a strict liability provision, usually punishable by
a period of disqualification from acting as a director (usually 5+ yrs).
However, there is also the possibility of a jail term.
SMSF where a member becomes bankrupt
The impact of bankruptcy and the resulting problems are most marked
where a debtor is a member of a SMSF at the time of bankruptcy.
This is because bankruptcy impacts on a debtor member’s ability to
remain as a trustee of the SMSF on an ongoing basis. This problem
doesn’t arise where a bankrupt is a member of a large APRA regulated
superannuation fund.
When a SMSF member becomes bankrupt, it is important for the
trustee to review the provisions of the fund’s trust deed. It may be
the deed has specific requirements around what happens when a
member becomes bankrupt. It may be, for example, that the trust deed
automatically resigns a person from being trustee, as and when they
become bankrupt. There may also be specific requirements around
dealing with the bankrupt’s entitlement in the SMSF.
The Superannuation Industry (Supervision) Act and Regulations (SIS)
impacts the SMSF of a bankrupt member in a number of ways.
Section 120 provides that an undischarged bankrupt is a “disqualified
person”. Section 126K says a disqualified person may not be, among
other things, a trustee of a regulated superannuation fund.
All of the requirements discussed above have to do with a bankrupt
SMSF member being, or ceasing to be, a fund trustee. There is no
specific prohibition on a bankrupt being a member of a SMSF, or indeed
of any superannuation fund. The definition of SMSF, however, requires
that all members be trustees and all trustees be members. So, in the
long term the bankrupt cannot continue to be a member of a SMSF.
Section 17A is the definition of a SMSF. Here, the general rule for a
SMSF is that all fund members be trustees, or directors of a trustee
company, and that all trustees or directors be fund members.
The problem for a SMSF member who becomes bankrupt is they
immediately become a disqualified person and are not allowed
to be a trustee of their SMSF. However, for their fund to remain a
SMSF, all fund members must be trustees and all trustees must be
fund members.
If the bankrupt ceases to be a trustee, Section 17A(4) allows the fund
six months within which it can adjust its membership in order to
remain a SMSF. At least this allows the SMSF trustee and members
some time to decide on which course of action they wish to take to
deal with the bankrupt member. The six month period will begin on
the Date of Bankruptcy.
Section 17A(3) provides that where a person is under a legal disability,
it is possible for the fund to continue to meet the definition of SMSF
if a person holding an Enduring Power of Attorney from that member
becomes trustee of a SMSF in place of that person. Is it therefore
possible for the bankrupt member to simply be replaced as a trustee by
someone holding an Enduring Power of Attorney from the bankrupt?
Options for when a SMSF member becomes bankrupt:
Section 17A(10) specifically says a person holding a Power of Attorney
cannot become a trustee in place of the member if the member’s legal
disability is that they are bankrupt. This means the bankrupt has only
one choice – to stop being a trustee/director of the SMSF.
SIS imposes obligations and possible penalties on a bankrupt SMSF
member and on the trustee of the SMSF under Section 126K:
Requirement
Penalties
A trustee who becomes
disqualified must
immediately resign
(1) up to two years’ jail for the
bankrupt member
The bankrupt must inform the
regulator (ATO) immediately
in writing upon becoming a
disqualified person*
(7) $8,500 penalty
Option 1
Option 2
Bankrupt rolls over their
entitlement into a larger APRA
regulated fund
Appoint an approved trustee and
apply to have their SMSF become
a small APRA fund
Less attractive option for SMSFs
who hold one or a small number
of specific assets that other
fund members want to retain
but may need to sell to pay out
the bankrupt
Often an expensive exercise and
sometimes approved trustees
accept appointment as fund
trustee where the fund assets
don’t fit the approved trustee’s
list of ‘acceptable assets’
If the bankrupt does not cease to be a member within the required
six months, the fund fails to be a SMSF. Section 106A requires that the
fund trustee notifies the Regulator (ATO) if at any time the fund stops
being a SMSF. The trustee is required to notify the ATO within 21 days
of the trustee becoming aware that the fund had ceased to be a SMSF.
There is a $17,000 penalty on the trustee if convicted of failing to meet
this requirement.
(2) monetary penalty on
the bankrupt member of up
to $10,200
David Foulds
Director – Estate Planning
and Superannuation
Telephone (03) 8610 5353
* Where immediately in writing means within 28 days using the ATO Form Number 3036
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Andrew Yeo
Partner – Business Recovery
and Insolvency Services
Telephone (03) 8610 5190
Privacy and security for
smaller organisations in
the digital age
90%
Spear-phishing attacks
by business size
2012
Of all data out there has been
created in the last two years.
50%
The introduction of the Australian Privacy Principles (APPs) in
March this year apply to companies with a turnover of more
than $3 million and a breach can lead to fines of up to
$1.7 million, or $340,000 for individuals or sole traders.
But with the explosion of social media, cloud computing and online
businesses, we’re creating more data than ever and every day reports
come in of data breaches as a result of external attacks and internal
breaches. As a result, the government needed to change legislation.
1 trillion
19%
In 2015, 1 trillion devices will
be connected to the Internet.
31%
2013
Large
business
2,501+
employees
Medium
business
251 – 2,500
employees
Small
business
1 – 250
employees
39%
31%
30%
A survey conducted by internet security company Symantec in 2013
found that the three main causes of data breaches globally are:
Malicious attacks or
cyber-crimes
(e.g. hacking, phishing)
37% 35%
The human factor
(e.g. negligence,
disgruntled employees,
or accidental breaches)
29%
System glitches
(e.g. software bugs)
Despite massive investment, even the most well-resourced
organisations are not immune from security breaches. Last year, an
internal software issue caused technology giant Adobe to expose
40 million customers’ details. However, breaches are not limited to
the largest companies. Smaller companies are equally at risk in the
marketplace.
Smaller organisations are very much at risk
Rather than focussing efforts trying to hack the largest organisations,
cyber criminals are opting to infiltrate smaller firms with less robust
security. Today, most companies offer some form of eCommerce
platform or conduct transactions virtually. Customers entrust us to
keep their information on file and we respond by storing it on-premise
and in hosted databases. Access to these databases and systems often
requires little more than a simple password.
A survey conducted by security company McAfee last year across 200
small Australian businesses revealed 46% of the businesses surveyed
suffered an internal data or security breach.
Many business owners assume that as they’re smaller, the information in
their IT systems isn’t of interest to cyber criminals and their business will
never be targeted. However, statistics demonstrate this is not the case.
The statistics also show the number of employees (both past and
present) that steal from their employer is typically higher in smaller
companies than large organisations. Many small businesses simply
don’t have the same policies and procedures in place and invest less in
training their staff to combat the growing security threats.
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Critical Point Network
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So what should you do?
Start by conducting a self-assessment of your business.
• What condition is your IT infrastructure in today?
• Is your antivirus software up to date?
• Are the latest software patches applied?
Familiarise yourself with the new APPs at www.oaic.gov.au and then
review the policies and procedures you have in place, see how they
align and address any gaps. We can also be contacted for further advice
including how to introduce a culture of privacy and security in your
business or undertake a Privacy Impact Assessment to reassess where
your company stands.
• What are your backup procedures and how secure are they (are tapes
taken offsite, and if so, what happens to them)?
• When was the last time your disaster recovery plan was reviewed
or tested?
It’s not just about firewalls, passwords and virus scanning. There is a
need for a broader holistic approach to security including governance,
workplace policies and training.
CPN Specialist
Query refresher
We are here to assist you when you
require specialist advice to help meet
your clients’ expectations in areas that
are outside of your immediate field of
expertise or experience.
Please email your completed CPN Specialist
Query service form to
cpn@pitcher.com.au and we will ensure the
appropriate specialist contacts you as soon as
possible. This form is downloadable from the
Pitcher Partners website.
If the enquiry can be answered in less than 10
minutes the service is complimentary.
Alternatively, if it will take a little longer to
resolve (being under 1 hour) then we have
a flat fee of $300 (excl GST) which we will
ask you to approve before we proceed with
providing you with the advice.
Finally, if the matter is more substantial we
will prepare a quote which we will seek your
approval for.
Our aim is to make this query process as
simple and effective as possible for you.
If you have any questions around the query
process please contact me directly:
linda.wah@pitcher.com.au or on
03 8610 5477.
Linda Wah
Critical Point Network Manager
Telephone (03) 8610 5477
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Critical Point Network
Andrew Killen
Senior Consultant – Pitcher Partners Consulting
Telephone 0449 098 345
Events to watch out for…
Professional Advisors’ Conference – 17 October 2014
CPN Contacts
The Professional Advisors’ Conference provides accounting and legal
practitioners with expert advice and assistance on a range of topical and
relevant issues to improve the services you provide your clients and the
knowledge you need to run a thriving practice.
Details of the upcoming conference are as follows:
Date
Venue
Time
RSVP Cost
Early Bird
Friday, 17 October 2014
The Langham, 1 Southgate Avenue, Southbank
8.30am – 4.00pm
Drinks reception to follow at 4.00pm – 5.00pm
Please confirm registration by Monday, 13 October 2014
CPN Members $380* and Non Members $480*
CPN Members $330^ and Non Members $430^
* Ticket price includes food and refreshments throughout the day
^‘Early Bird’ registrations close 29 September, and you can receive a
15% discount for three or more guests (please note that discount
offers will not be combined)
MELBOURNE
Gess Rambaldi, Andrew Yeo or
David Vasudevan
Level 19, 15 William Street
Melbourne VIC 3000
SYDNEY
Scott Treatt
Level 22, MLC Centre,
19 Martin Place
Sydney NSW 2000
Telephone +61 3 8612 9261
Facsimile +61 3 8610 5999
partners@pitcher.com.au
Telephone +61 2 9228 2284
Facsimile +61 2 9223 1762
partners@pitcher-nsw.com.au
PERTH
Daniel Bredenkamp
Level 1, 914 Hay Street
Perth WA 6000
ADELAIDE
Michael Basedow
160 Greenhill Road
Parkside SA 5063
Telephone +61 8 9322 2022
Facsimile +61 8 9322 1262
partners@pitcher-wa.com.au
Telephone +61 8 8179 2800
Facsimile +61 8 8179 2885
partners@pitcher-sa.com.au
NEWCASTLE
Greg Farrow
The Glass House, Suite 4, Level 1
101 Hannell Street
Wickham NSW 2293
We are pleased to announce former CEO of the
Australian Football League, Andrew Demetriou
as our keynote speaker. Andrew will share with
us some lessons learned from running Australia’s
largest sporting organisation, including his
thoughts on leadership, management and the
importance of promoting inclusion and tolerance. Don’t miss it!
Telephone +61 2 4911 2000
Facsimile+61 2 4911 2099
newcastle@pitcher.com.au
Contact cpn@pitcher.com.au for further details.
www.pitcher.com.au
Final Breakfast Briefings for 2014
Pitcher Partners is an association of independent firms. Liability limited by a
scheme approved under Professional Standards Legislation.
Critical Point Network is a business of Pitcher Partners Advisors Proprietary
Limited ABN 27975255196. Critical Point Network is a registered trademark.
Session 1
Date Tuesday, 18 November 2014
Time 7.15am for 7.30am start – 9.00am conclusion
Venue Pitcher Partners, Level 19, 15 William Street, Melbourne
Cost Members $40 and Non Members $60
The material contained in this publication is general commentary only for
distribution to clients of Pitcher Partners. None of the material is, or should
be regarded as advice. Accordingly, no person should rely on any of the
contents of this publication without first obtaining specific advice from one
of the Partners of Pitcher Partners. Pitcher Partners, its Principals & agents
accept no responsibility to any person who acts or relies in any way on any
of the material without first obtaining such specific advice.
© Pitcher Partners 2014 PrintPost Approved PP381827/0043
Session 2
Date Thursday, 20 November 2014
Time 7.15am for 7.30am start – 9.00am conclusion
Venue Pitcher Partners South East Office,
80 Monash Drive, Dandenong South
Cost Members $40 and Non Members $60
CPN is printed on paper Certified Carbon Neutral. With 55% recycled fibre it is FSC Mixed
Source Certified, sourced from sustainable plantation wood, Elemental Chlorine Free and
manufactured by an ISO 14001 certified mill.
Invitations will be sent out mid-October.
CPN Fishing Charters
Where
St Kilda Marina, Marine Parade, Melbourne
Dates
Friday, 24 October 2014 (6.00pm – 9.00pm)
Saturday, 25 October 2014 (10.30am – 1.30pm)
Friday, 21 November 2014 (6.00pm – 9.00pm)
Saturday, 22 November 2014 (10.30am – 1.30pm)
Extreme Fishing – Saturday, 29 November 2014 (4.00am – 7.00am)
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