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Prepayments under the Australian tax system

January 2003

Wanting to prepay a year's interest on 30 June and claim a tax deduction upfront? Thinking about prepaying a management fee for a film project or for a horticultural project and claiming a tax deduction?

Check with Baldwins that the new prepayment and tax shelter rules do not stop you in your tracks.

Deductions for prepayments associated with certain negatively-geared investments might still be acceptable (eg. a prepayment of interest on money to acquire real estate or shares, or premiums for various types of insurance). Likewise, if the prepayment is less than $1,000, the rules won't stop you from claiming a tax deduction (assuming you're entitled to one). Furthermore, some prepayments in excess of that sum are excluded from the prepayment rules - prepayments of land tax, car registration, workers compensation premiums, liquor licenses and expenses required to be incurred by law or under a court order may be deductible even if they exceed $1,000.

There might be some joy if either the expenditure arose under a pre-21 September 1999 agreement, or if you're an individual claiming non-business related expenditure or a Simplified Tax System taxpayer. In these scenarios, it may be possible to claim an upfront deduction for expenditure where the service period to which the expenditure relates does not exceed 12 months and does not conclude after the last day of the income year after the expenditure was incurred. If the period to which the payment relates is longer than 12 months or is 12 months or shorter but finishes in the income year after the year the expense is incurred, the deduction is apportioned accordingly (10 year maximum).

There is bad news for business taxpayers or any non-individual taxpayers (eg. an investor trust) that does not carry on a business: the deduction for any prepayment is spread over the period for which the services are to be provided where the service period to which the expenditure relates is less than 13 months (subject to transitional rules which end in the year ending 30 June 2003). If the service period is less than 12 months but spans a second income year, the deduction is apportioned accordingly. A similar apportionment is conducted where the payment relates to a period which exceeds 13 months.

There are aggressive anti-avoidance provisions which apportion deductions commonly incurred in many primary production schemes. This will occur if:

• the taxpayer does not have day to day control over the operation of an agreement;
• the taxpayer's deductions attributable to the agreement exceed their income; and
• the things to be done under the agreement span a second income year.

Separate provisions are contained for expenditure on certain forestry expenditure incurred before 30 June 2006.

For further information, contact Joe Lederman at BALDWINS, Australian Lawyers & Consultants.

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