One of the most common issues I see with businesses in the first few years of operation is what I like to call ‘THE DOUBLE WHAMMY’.
The business may be going along swimmingly and making profits.
The business owner thinks they are going great guns and rewards themselves by spending all of the money in the bank account.
They then visit their accountant when their first income tax return (ITR) is due for lodgement and WHAM
The accountant delivers the news that they have a tax bill (heads up, it never goes down well)
So what happens then? they find themselves in a nasty game of chasey with ATO payment plans plus trying to keep up with current taxes and they are forever chasing their tails.
Let me tell you from experience, it’s hard and painful for them to catch-up and it’s not a position a business owner in the early stages of their business wants to go through.
So how does it happen? Let’s dive in:
When you start a business the ATO doesn’t know how much tax you have to pay so they wait and wait and wait until you lodge your first ITR
Your first ITR can sometimes be nearly two years after the business started – say what now? … If you start your business on 1 July 2020, your first ITR is for the 30 June 2021 year which won’t be due for lodgement till 15 May 2022 – nearly two years!!!
Once you lodge your first ITR in May 2022 you will be paying the 2021 tax WHAM plus prepaying the 2022 tax bill based upon 2021 DOUBLE WHAMMY and then,
There is another whammy (yep the TRIPLE WHAMMY), you then have the 2023 tax to pay quarterly in advance, the first quarter would be in September 2022.
See the issue!!! So what's the answer?
Calculate the tax as you go, using accounting software like Xero together with support from your accountant to help you calculate how much tax to hive away so you are ready to pay it when it’s due
Voluntarily enter the pay as you go instalments (PAYGI) system early and pay as you go – so there is no double or triple whammy
Alright, maybe tell me a little more about this PAYGI that you speak of … OK
PAYGI are like a businesses version of PAYGW for employees. You are paying tax as you go (in advance) rather than at the end based upon the last years tax lodged. You receive a PAYGI once a quarter from the ATO once you have entered the system.
So do you have to pay your quarterly PAYGI? YES you have to pay it! (Imagine if we let employees pay their tax all at once at the end of the year?!?!) Everyone needs to pay their fair share of tax. PAYGI are the ATO’s way of trying to make it easier for a business to manage their tax and cashflow so when you go to lodge your ITR you shouldn’t have a large sum to pay, only the balance of tax less prepaid PAYGI. If the profit is the same as the year before the balance will be small to Nil, if it was better you may have more tax to pay (unless you paid the right amount of PAYGI as you went) or if it is worse you get a refund (unless you varied down the PAYGI to the correct amount along the way)
So can I vary it down? Yes but beware. When you vary your PAYGI it's important not to underestimate your PAYG instalment amount, income or rate. The ATO compare your instalments to the total tax payable on your instalment income for the year. If the value of your varied instalments is less than 85% of that total, you may be subject to a general interest charge (GIC) on the difference, as well as penalties. Ouch!
So heed the warning my new to business friends, don’t fall victim to the Double or Triple Whammy – plan ahead and get the right advice as you go. Remember a profitable business needs to pay it’s fair share of tax. The correct structure and tax planning can help with minimising tax but planning is the best strategy to have … don’t stick your head in the sand, you are not an ostrich!
The following tables outline reasons why you may have entered the PAYG instalment system,