The ATO is tightening its grip on business owners who dip into company funds or use company resources for personal purposes.

It’s not uncommon for business owners to blur the lines between their personal lives and their business, using company resources as if they were their own. While tax laws are in place to prevent individuals from accessing company profits or assets without paying taxes, mistakes happen. Now, the Australian Taxation Office (ATO) is stepping in.

To address these issues, the ATO has launched an educational campaign highlighting the common pitfalls and the severe tax consequences that can follow.

What the Tax Law Requires

Division 7A is a part of the tax law designed to prevent private companies from giving benefits to shareholders or their associates in ways that avoid tax. This includes loans, payments, or forgiven debts. It also covers situations where a trust allocates income to a private company but hasn’t paid it while providing benefits to the company’s shareholders or their associates.

Introduced to stop shareholders from accessing company profits or assets tax-free, Division 7A treats such benefits as deemed unfranked dividends, taxed at the recipient’s marginal rate. To avoid this unfavourable outcome, you can:

  1. Repay the amount before the company tax return is due, often through a set-off arrangement with franked dividends or
  2. Set up a complying loan agreement between the borrower and the company, ensuring minimum annual repayments at the benchmark interest rate.

Common Problem Areas

Although Division 7A has been around since 1997, issues still crop up frequently. These include:

  • Incorrectly accounting for the use of company assets by shareholders and their associates, often leaving amounts unrecognised.
  • Issuing loans without proper loan agreements.
  • Reborrowing from the company to repay Division 7A loans.
  • Applying the wrong interest rate to Division 7A loans (a specific rate must be used).

Managing the tax implications of benefits provided to shareholders and their associates can get complicated quickly. To avoid problems, follow these steps:

  • Don’t pay private expenses from a company account.
  • Keep detailed records of all company transactions, including those involving associated trusts and shareholders.
  • If the company lends money to shareholders or their associates, ensure there’s a written agreement that qualifies as a complying loan to prevent the amount from being treated as an unfranked dividend.

There are strict deadlines for addressing Division 7A issues. For instance, if the borrower plans to repay the loan in full or establish a complying loan agreement, this must be done before the earlier of the due date and the actual lodgement date of the company’s tax return for the year the loan was made.