Question

When will a business owner be required to pay PAYG on income?

Answer 1

The Pay As You Go (PAYG) instalment system is a program of pre-paying tax instalments towards your expected tax liability on your business and investment income. It is not to be confused with Pay As You Go (PAYG) Withholding which is related to wages and salaries.

Your actual income tax liability is worked out when your income tax return is assessed. Your PAYG instalments for the year are credited against your tax assessment per your tax return to determine whether you owe more tax or are owed a refund.

It is essentially a pre-payment system with a balancing amount upon lodgement of the year-end tax return.

It can apply to individuals, companies and super funds.

PAYG Instalments are based on your previous year’s tax return lodged. They are generally payable on a quarterly basis via a PAYG Instalment Notice or as part of your Business Activity Statement.

In general you will be required to pay PAYG Instalments if:

• in your last tax return you reported gross business and/or investment income (excluding any net capital gains) of $4,000 or more
• your adjusted balance of assessment on your last assessed tax return was more than $1,000
• your ‘notional tax’ is more than $500
• you are not entitled to the seniors and pensioners tax offset.

The $4,000 threshold does not include salary or wage income from which tax has already been withheld.

Generally speaking, notional tax is the tax that would have been payable on your business/investment income based on current tax rates.

So let me give you an example:

You have a 2013 tax bill of $10,000 on your personal share portfolio. The ATO send you four PAYG Instalment Notices during the 2014 financial year for $2,600 each. Therefore, for the 2014 tax year you have pre-paid $10,400 in tax. Your 2014 tax return calculates total tax of $15,000. The amount of tax you owe is reduced by the $10,400 in PAYG Instalments you have paid. Therefore, your tax bill when you lodge your 2014 tax return is $4,600.

If you are a company, an example of your situation might be as follows:

The company generates profit of $50,000 in 2013. The ATO issues the company with four PAYG Instalments of $3,750 during the 2014 tax year. However, in the 2014 tax year, the company’s profit jumps to $100,000. Company tax on $100,000 is of course $30,000 which means there is a large balancing amount to pay of $15,000.

This is where is pays to do some tax planning so these things don’t come as too big a surprise.