Division 7A of the Income Tax Assessment Act 1936 is often misunderstood by business owners. Many believe they can withdraw company money or provide financial benefits to shareholders without tax consequences. However, the Australian Taxation Office (ATO) has clear rules to prevent private companies from distributing profits tax-free.
To help you stay compliant, the ATO has debunked several myths about Division 7A. Here’s what you need to know to avoid unexpected tax liabilities.
Myth 1: You Can Use Company Money However You Want
A private company is a separate legal entity. If you take money from the company for personal use without properly structuring it (e.g., as a salary, dividend, or a complying loan), the ATO may treat it as a taxable unfranked dividend under Division 7A.
Myth 2: Division 7A Only Affects Shareholders
Division 7A doesn’t just apply to shareholders—it also covers their associates, such as family members, business partners, and related entities. If your company provides financial benefits to any of these parties, Division 7A could still apply.
Myth 3: You Don’t Need to Keep Records of Loans or Payments
The ATO requires proper documentation for all financial transactions between a company and its shareholders or associates. If a loan isn’t supported by a written agreement that meets Division 7A rules, it could be classified as a deemed dividend and taxed accordingly.
Myth 4: You Can Offset a Loan Repayment with an Accounting Entry
Not always. Some types of payment can be done this way, and some cannot. It’s crucial to carefully assess the shareholder’s personal circumstances and overall tax planning strategy before determining whether a book entry is a feasible alternative to a physical cash repayment.
Myth 5: Division 7A Interest Rates Stay the Same
The ATO updates the Division 7A benchmark interest rate every year. If your company provides a loan, you must apply the correct interest rate to meet Division 7A compliance.
Myth 6: Repaying a Loan Before Lodgment Day Avoids Division 7A
Some business owners try to temporarily repay loans before the company’s tax return lodgment date, only to borrow the money again afterward. The ATO does not accept this as a valid strategy and may still apply Division 7A rules.
Myth 7: The ATO Will Always Grant You Relief
The ATO has the discretion to disregard a deemed dividend in certain circumstances, but this is not guaranteed. You must provide strong evidence that the mistake was genuine and that you took steps to correct it. Simply relying on a tax adviser’s advice isn’t enough.
How to Stay Compliant with Division 7A
To avoid Division 7A tax issues, follow these ATO-recommended best practices:
- Keep proper records of all company payments, loans, and benefits.
- If you take a loan, ensure it has a written agreement that follows Division 7A rules.
- Make minimum yearly repayments on time using the correct ATO benchmark interest rate.
- Work with a tax professional to ensure compliance and avoid ATO penalties.
Conclusion
The ATO has made it clear—Division 7A is designed to prevent company profits from being distributed tax-free. Misunderstanding these rules can result in hefty tax bills. If you’re unsure whether Division 7A applies to you, consult a tax professional to ensure your business stays compliant.
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Disclaimer
This article serves as general information only and may not account for the unique circumstances of individual readers. For personalised and strategic solutions tailored to your specific situation, we invite you to seek professional advice from Chan & Naylor. Our highly experienced team is dedicated to helping you navigate the complexities of Australian taxation, ensuring that your financial strategies align with the latest regulations. Contact us today to embark on a path of informed and customised tax planning for your property investments
