Business profits

Let's say I run a company that makes $10,000 profit.

The shares in the company are owned by a discretionary trust of which I am a beneficiary.

How do I (from an accounting point of view), take that $10,000 and use it in the trust ? Would it be a dividend ?

Would the company have to pay tax on it, or can I let it be passed on to the trust untaxed - so the full tax liability passes to the trust ?

Example - if I have losses in my trust, could I then use that $10,000 not-yet-taxed income from the company to offset the losses in the trust, hence leaving a smaller amount (or even zero) taxable income to be distributed to the beneficiaries ?

... or does the company have to pay tax on that profit regardless (for which the shareholders or eventual beneficiaries then get credit) ?

 

Nick, have I got this right ...

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Option 1 (dividend paid after 30/6)

Company gets $10K income (let's assume it's all profit).

Company declares $10K income and pays $3K tax.

Company pays $7K fully franked dividend to trust

Trust distributes $7K of income to beneficiaries with $3K of imputation credit.

Beneficiaries declare income of $7K net dividend + $3K franking credit = $10K assessable income

Tax liabilities:
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Option 2A (48.5% tax bracket)

Beneficiary on 48.5% tax bracket has $4.85K tax liability, with $3K credit = $1.85K net tax owed

Total tax paid by everyone = $3K by company + $1.85K by beneficiary = $4.85K
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Option 2B (30% tax bracket)

Beneficiary on 30% tax bracket has $3K tax liability with $3K credit = 0 net tax owed

Total tax paid by everyone = $3K by company + 0 by beneficiary = $3K
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Option 2C (0 tax bracket)

Beneficiary on 0 tax bracket has 0 tax liability (less than $6K total) with $3K credit = $3K net

tax returned

Total tax paid by everyone = $3K by company + -$3K by beneficiary = $0


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Option 2 (dividend paid before 30/6)

Company gets $10K income (let's assume it's all profit).

Company pays unfranked dividend of $7K to the trust

Trust distributes $7K of income to beneficiaries with zero credit.

Beneficiaries declare income of $7K net dividend = $7K assessable income
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Option 2A (48.5% tax bracket)

Beneficiary on 48.5% tax bracket has $3395 net tax liability

Company has $3000 net tax liability

Total tax paid by everyone = $6695
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Option 2B (30% tax bracket)

Beneficiary on 30% tax bracket has $2100 net tax liability

Company has $3000 net tax liability

Total tax paid by everyone = $5100
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Option 2C (0% tax bracket)

Beneficiary on 0% tax bracket has $150 net tax liability

Company has $3000 net tax liability

Total tax paid by everyone = $3150

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Option 3 (paid after 30/6 but no profits to distribute to beneficiary)

Company gets $10K income (let's assume it's all profit).

Company declares $10K income and pays $3K tax.

Company pays $7K fully franked dividend to trust.

Trust has at least $7K of losses.

Trust distributes $0K of income to beneficiaries with $3K of imputation credit.

Beneficiaries declare income of $0K net dividend + $3K franking credit = $3K assessable income

Beneficiary has $0K tax liability, with $3K credit = $3K net tax returned

Total tax paid by everyone = $3K + - $3K = $0

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Summary:

Total tax paid is quite a bit higher if the dividend is paid before 30/6 and is unfranked. Fully franked dividend is a lot better taxwise.

If the trust has losses to offset the dividend income, the unfranked dividend paid before 30/6, total tax paid is $3K by the company. If fully franked paid after 30/6, the trust pays $3K, but the beneficiaries get $3K of tax credit - net effect is zero.

Did I get it right ? Option 2 seems really expensive taxwise, with only $3305 in after tax income left from the $10K. Surely this isn't right - you're basically paying double tax ?

 

Okay - thanks Nick. You are right - clear as mud.

Let's try another approach!

It's November now. My company will be profitable this financial year. I want to extract some of the cash from the company for use within the trust as soon as possible (ie now) in the most tax-effective way.

The beneficiaries of the trust that owns the shares in the company will be in (or near) the top tax bracket, so no point distributing anything to them.

I'm assuming the trust will make either a slight profit or a slight loss over the course of the financial year, ignoring any income from the company.

I'm thinking this will all make a good article topic at some stage !!