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1 Page 1 of 12 Company loss carry-back tax offset Company loss carry-back tax offset Introduction On 24 October 2013, the Government released a draft Bill that includes the repeal of the loss carry-back tax offset. When enacted, this legislation will apply to assessments for the income year and later income years. For more information on the progress of this legislation, please refer to the new law web page for Company loss carry-back. The loss carry-back law provides a company with the choice to carry back all or part of a tax loss from an income year, or the previous income year, against their income tax liability in either of the two previous income years. This allows companies experiencing tax losses to carry these losses back against the tax they previously paid and receive a refund by claiming a tax offset known as a loss carry-back tax offset. A transitional period applies for the income year. You can only claim a loss carry-back refund against your tax liability for the income year. From the income year, you can claim a loss carry-back refund against your tax liability for either of the two previous income years. Who is eligible to claim? To be entitled to the loss carry-back tax offset, you must:

2 Page 2 of 12 be a company, or taxed like a company (such as corporate limited partnerships, corporate unit trusts, or public trading trusts), throughout the year you are claiming the offset are carrying losses back to (unless the company did not exist for the full year) have a tax loss in either or both the current year the income year just before the current year (the middle year) have an income tax liability for either or both the middle year the income year just before the middle year (the earliest year) meet any of the following requirements for the current year and each of the five income years before the current year the company lodged its income tax return for the year the company was not required to lodge an income tax return for the year we have made an assessment of the company s income tax for the year make a loss carry-back choice you make this choice in the approved form, which is the company tax return. For the income year: The current year is the income year you are claiming the loss carry-back tax offset. The middle year is the year before the current year; in this case it would be the income year. The earliest year is the year before the middle year. That is, the earliest year is two income years before the income year in which the loss carry-back tax offset is claimed; in

3 Page 3 of 12 this case it would be the income year. How much can you claim? The loss carry-back tax offset for the income year in which you carry back tax losses is the lowest of: the sum of the loss carry-back tax offset components for the earliest year and the middle year $1,000,000 multiplied by the corporate tax rate for the year you make a claim (that is, $300,000 in the income year as the corporate tax rate for that year is 30%) your franking account balance at the end of the income year you make a claim. The franking account balance limit does not apply if the company was a non-resident (other than a New Zealand franking company). When does it apply? A transitional one-year carry-back period is in place for the income year. This means that you may claim a loss carry-back tax offset for the income year against the income tax liability for the income year only. From the income year onwards, you may be able to claim a loss carry-back tax offset against any unused income tax liabilities from either of the two income years before the current year. How do you treat net exempt income? If you have net exempt income in the current year, current year tax losses must be reduced against the net exempt income before you determine the amount of tax losses to carry back.

4 Page 4 of 12 Net exempt income is certain types of income that the tax law specifically exempts from income tax most commonly certain government payments. Net exempt income is exempt income less the losses and outgoings (not including capital losses and outgoings) incurred in earning that income and any foreign tax payable on it. For more information, refer to Amounts that you do not pay tax on. How do you calculate the tax offset? The loss carry-back tax offset amount, is the lesser of: the sum of the loss carry-back tax offset components for the middle year and the earliest year your franking account balance at the end of the year in which you carry back tax losses $1,000,000 multiplied by the corporate rate for the year in which you carry back tax losses this is currently 30% and results in $300,000. Use the following method statement to calculate your loss carry-back tax offset component. This method statement is to be calculated separately in an income year if there is a loss carry back to the middle year and the earliest year. Method statement Step 1. Identify the amount of tax losses to be carried back to the income year. Step 2. Subtract the net exempt income for the income year from the amount from step 1. The second step reduces the step 1 amount by the net exempt income of the income year (if any) the loss is carried back to. This ensures that, for the purposes of the loss carry-back tax offset, net exempt income is applied in the same way as it is applied when working out the amount of deductible tax losses in an income year. Step 3. Multiply the result of step 2 by the corporate tax rate for the current year. The third step converts those reduced amounts into tax equivalent amounts by multiplying the step 2 amount by the corporate tax rate for the current year. Step 4. Reduce the result of step 3 down to the income tax liability for the income year. The fourth step reduces the converted amount so that it does not exceed the amount of the tax liability available for the income year the loss was carried back to. Example 1: Two-year loss carry-back if there is no net exempt income

5 Page 5 of 12 In the and income years, QWD Construction Pty Ltd (QWD) is severely affected by the downturn in the building industry and is in a loss position for these two years. QWD claims the loss carry-back tax offset in the and income years. QWD s lodgment is up to date and it is eligible to claim the loss carry-back tax offset. Tax return information Taxable income: $1,500,000 Income tax liability: $450, Taxable loss: $1,200,000 Franking account balance: $500,000 Method statement Step 1. In the income year, QWD makes a choice to carry back $1,000,000 tax losses in the current year to the middle year ( ). Step 2. It must subtract net exempt income from the amount in step 1. There is no net exempt income to subtract. The result for step 2 is $1,000,000. Step 3. The $1,000,000 from step 2 is multiplied by the corporate tax rate for the income year. The result of step 3 is $300,000. Step 4. The result of step 3 is to be reduced to the income year s income tax liability if the step 3 amount exceeds the unutilised income tax liability for the income year. There is no need to reduce the amount from step 3 as that amount is already lower than its income tax liability ($450,000). QWD can claim the loss carry-back tax offset of $300,000 as it is the lesser of: the franking account balance at the end of the income year ($500,000) the loss carry-back tax offset amount calculated using the method statement ($300,000) $1,000,000 multiplied by the corporate rate for the income year ($300,000). QWD must complete the relevant loss carry-back labels on the company tax return and the $200,000 loss carry forward is also recorded in the losses information section of the company tax return. It must also complete the refundable tax offsets label on the calculation statement. It will have to complete a Losses schedule as the tax loss carried forward for the income year is over $100,000. If its tax losses carried forward were not over $100,000, it will have to complete a Losses schedule as the loss carry back amount is over $100,000. It will also have to debit its franking account by $300,000 when it receives the refund. Tax return information Taxable loss: $1,000,000 Franking account balance: $200,000 Method statement

6 Page 6 of 12 Step 1. In the income year, QWD makes a choice to carry back a $200,000 tax loss from the middle year (the income year) to the earliest year (the income year) and a $300,000 tax loss from the current year to the earliest year. The result of step 1 is $500,000. As QWD is making a choice to carry back tax losses from both the current year and the middle year to the earliest year, only one loss carry-back tax offset component must be calculated. Step 2. There is no exempt income in the earliest year to subtract from the result of step 1. The result for step 2 is $500,000. Step 3. The $500,000 from step 2 is multiplied by the corporate tax rate for the income year (currently 30%). The result of step 3 is $150,000. Step 4. The result of step 3 is to be reduced to the income year s income tax liability if the step 3 amount exceeds the unutilised income tax liability for the income year. The unutilised income tax liability for the income year is $150,000, as $300,000 was utilised for the income year s loss carry-back tax offset. There is no need to reduce the step 3 amount as it is equal to the unutilised income tax liability for the income year. QWD can claim a loss carry-back tax offset of $150,000 as it is the lesser of: the franking account balance at the end of the income year ($200,000) the sum of the loss carry-back tax offset components for the middle year ($0) and the earliest year ($150,000) $1,000,000 multiplied by the corporate rate for the income year, assuming that it is 30% ($300,000). QWD must complete the relevant loss carry-back labels on the company tax return and the $700,000 tax loss incurred in the income year is carried forward and recorded in the losses information section of the company tax return. It must also complete the refundable tax offsets label on the calculation statement in the company tax return. It will have to complete a Losses schedule as the tax loss carried forward is over $100,000. If its tax losses carried forward were not over $100,000 it will have to complete a Losses schedule as the loss carry back is over $100,000. It will also have to debit its franking account by $150,000 when it receives the refund. Example 2: Two-year carry-back if there is net exempt income In the income year, Chinese Dome Restaurant Pty Ltd (the restaurant) is severely affected by road repairs being carried outside the restaurant which results in a tax loss for the income year. The restaurant claims the loss carry-back tax offset in its company tax return. The restaurant s lodgment is up to date and it is eligible to claim the loss carry-back tax offset. Tax return information

7 Page 7 of 12 Taxable income: $500,000 Net exempt income : $10,000 Income tax liability $150, Taxable income: $300,000 Net exempt income: $10,000 Income tax liability: $90, Taxable loss: $1,000,000 Franking account balance: $300,000 Method statement For the earliest year ( ): Step 1. The restaurant makes a choice to carry back a $510,000 tax loss from the current year (the income year) to the earliest year (the income year). In this case, they choose to carry back an extra $10,000 of tax losses to offset the $10,000 net exempt income in the income year. Step 2. The restaurant subtracts the net exempt income of $10,000 from the amount in step 1. The result for step 2 is $500,000. Step 3. The $500,000 from step 2 is multiplied by the corporate tax rate for the income year. The result of step 3 is $150,000. Step 4. The result of step 3 is to be reduced to the income year s income tax liability if the step 3 amount exceeds the unutilised income tax liability for the income year. There is no need to reduce the amount as it is equal to the income tax liability for the income year. This means the earliest year loss carry-back tax offset component is $150,000. The restaurant then needs to calculate the loss carry-back tax offset component for the middle year ( ): Step 1. The restaurant chooses to carry back $310,000. Step 2. It reduces the amount at step 1 by the net exempt income of $10,000 for the income year. The result is $300,000. Step 3. It multiplies $300,000 by the corporate tax rate for the current year ($300,000 x 30% = $90,000). Step 4. Again this is equal to the income tax liability for the income year of $90,000, so no further reductions are required. The restaurant then adds its loss carry-back tax offset components together. The sum of the loss carry-back tax offset components is $240,000. The restaurant can claim the loss carry-back tax offset of $240,000 as it is the lesser of:

8 Page 8 of 12 its franking account balance at the end of the income year ($300,000) the sum of the loss carry-back tax offset components ($240,000) $1,000,000 multiplied by the corporate rate for the income year, assuming that it is 30% ($300,000). The restaurant must complete the relevant loss carry-back labels on the company tax return and the $180,000 tax loss carried forward is recorded in the losses information section of the company tax return. It must also complete the refundable tax offsets label on the calculation statement. It will have to complete a Losses schedule as the tax loss carried forward for the income year is over $100,000. If its tax losses carried forward were not over $100,000 it will have to complete a Losses schedule as the loss carry back is over $100,000. It will also have to debit its franking account by $240,000 when it receives the refund. To claim the loss carry-back tax offset, you must: review your eligibility identify the highest amount you are entitled to claim work through the method statement and complete the relevant labels on the company tax

9 Page 9 of 12 return. What is the loss integrity rule? You cannot claim the loss carry-back tax offset if there is a scheme for the arrangement of membership shares or interests in the corporate tax entity that changes the control of the entity. You will be denied the offset only if a purpose of the scheme is to obtain a financial benefit in relation to the refundable loss carry-back tax offset. All relevant circumstances will be considered. Example 3: Joe s Accountancy Pty Ltd has a five-year lease over premises in a country town with an option to renew the lease for a further five years. The premises are located within a row of premises that are available on similar terms. The company has been returning profits in excess of $500,000 in recent years and has a franking account balance of $400,000. Other than the lease and office equipment, the company has no significant assets. Patricia acquires all of the shares in the company for $150,000. Joe starts a new company called Joe s Financial Consulting Services Pty Ltd and trades from one of the available premises further along the road. As the office equipment is of limited value to Patricia, she allows Joe to buy what he wishes and take it with him. Patricia renames the company Patricia s Real Estate Agency Pty Ltd and refurbishes the business premises to meet her needs. As expected from the business plan, Patricia s Real Estate Agency makes a loss of $800,000 in its first year of operation. Patricia insists that her primary purpose in purchasing the membership interest in what is now her company was to obtain a valuable long-term lease. Patricia is running a very different business to that of Joe. While the company under her control has continued to use the same leased premises, comparable alternative premises were readily available. Patricia s claim that she wanted a valuable long-term lease is not convincing. The payment of $150,000 by Patricia is providing a financial benefit to Joe. Patricia will also receive a financial benefit as her company can now expect to receive a refundable loss carry-back tax offset of $240,000 (30% of $800,000) in its first year of operation and possibly a further refundable loss carryback tax offset should the second year s trading give rise to a loss. Accordingly, the refundable loss carry-back tax offset would be denied.

10 Page 10 of 12 You must self-assess whether the integrity rule applies to your circumstances. Generally, it will be clear if the integrity rule does not apply. For more information, refer to the Loss carry-back integrity rule < in the Explanatory Memorandum. What is the relationship between carry-forward and carry-back losses? Tax losses can either be: carried forward and deducted against income derived in later income years carried back against income tax liability of the middle and earliest year to produce a refundable tax offset if the entity is eligible to carry losses back. For more information about carry forward losses, refer to Losses. Questions and answers What losses are ineligible for the tax offset? There are three types of losses that cannot be carried back: 1. Capital losses this is due to the capital gains tax regime operating on a realisation basis. 2. Transferred losses these are tax losses specifically disallowed in the loss carry back provisions. This includes tax losses transferred under Subdivision 707-A to the head company

11 Page 11 of of a consolidated group from entities that join the consolidated group or transfers between companies in same foreign group under Subdivision 170-A. Excess franking offsets excess franking offsets converted into tax loss under Subdivision 36- C. Can you claim a loss carry-back tax offset amount that is more than your franking account balance? No. However, the franking account balance does not apply if the company is a non-resident (other than a New Zealand franking company). What if your tax return is amended? The loss carry-back tax offset may be reduced or increased if the tax liability in a prior year changes. As a result of the prior year s changes, you will need to lodge an amendment to the later tax return in which you claimed the loss carry-back tax offset if the amount should be reduced. If you want to increase a loss carry-back tax offset amount, you must lodge an amendment for the later tax return. Will the loss carry-back provisions affect interest on overpayments and late payments? Claiming the loss carry-back tax offset against a particular middle or earliest year does not: give rise to interest on overpayments in relation to the tax liability assessed for that year reduce any general interest charge or shortfall interest charge if you don t pay the original (or any amended) assessed liability of that year. More information For more information about the loss carry-back tax offset: speak to your tax agent phone us between 8.00am and 6.00pm, Monday to Friday.

12 Page 12 of 12 Our commitment to you We are committed to providing you with accurate, consistent and clear information to help you understand your rights and entitlements and meet your obligations. If you follow our information and it turns out to be incorrect, or it is misleading and you make a mistake as a result, we will take that into account when determining what action, if any, we should take. Some of the information on this website applies to a specific financial year. This is clearly marked. Make sure you have the information for the right year before making decisions based on that information. If you feel that our information does not fully cover your circumstances, or you are unsure how it applies to you, contact us or seek professional advice. Copyright notice Australian Taxation Office for the Commonwealth of Australia You are free to copy, adapt, modify, transmit and distribute this material as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).