In the following case study, taxation guidance has been provided on the derived income of RIP Pty Ltd in reference to the case law of Arthur Murray (NSW) Pty Ltd v FCT (1965). The incomes derived by RIP Pty Ltd under its various sources will also be considered for this purpose. The advice will follow the prevailing legislation that is generally followed in Australia.
a) The decision of Court Regarding Arthur Murray (NSW) Pty Ltd v FCT (1965)
(i) Facts of the Case in Brief
Arthur Murray Pty Ltd started a business in providing prepaid dance class comprising of various duration of lesson-period. Arthur Murray Pty Ltd used to provide the lessons under the license of an American company. The ‘income derived' from this business during a certain period was in question because of its unethical accounting practices. The willing learners of the dance classes paid the payments either in full or part at the time of signing the contract, which was non-cancellable. All the amounts were non-refundable. In contrast to that, the license which was acquired by the taxpayer for the lessons had provision for refund of the payment to any pupil if the request was reasonable. However, the taxpayer paid refunds to some of the pupils, in accordance with the license during the years of which the income was under question. As per Kouparitsas et al. (2016, p.7), the accountant can follow various accounting practices that are followed by the standard accounting practices.
According to Tucker and Schaltegger (2016, p.383), under the Accrual method of accounting which is done on the basis of the earnings of the proprietor, the expenses need to be matched with the income. As per the method, the expenses are notified whenever it occurs and not when the cash amount is paid (Harding, 2014, p.9). The taxpayer kept the advance payments of the pupils under a separate head. After each month of the lesson is completed the appropriate amount of money used to be transferred from that account to another account which was for the earned tuition. In this way, a sum of money was beyond the consideration of Income-tax as that money was shown as an unrealised income.
As per Section 6 of Income Tax Assessment Act 1997, any professional who have an annual income of more than $2 million a year can receive access to their income with respect to cash basis. As per Section 5 and 6 as well as Section 6 to 10 of the Act, there are provisions of income as well as ordinary income accessed on basis of cash for those having income of more than$2 million.
The case of Arthur Murray (NSW) Pty Ltd v FCT (1965) was judged under the section of 25(1) the Income Tax Assessment Act (ITAA), 1936. As per IRS 99-19, in case of a PTY Ltd. Or Partnership tag, there is provision for the taxpayer to derive income as per accrual basis. The above-mentioned section of the act instructs all the taxpayer to announce the gross income derived by the taxpayer, directly or indirectly in a certain period in Australia. In the case law, the Australian High Court explained the term of income derived in details with respect to the case. However, it was not possible for the HC to rely on a single section of the Law in order to draw a conclusion. As per Grubert and Altshuler (2016, p.12), the court can look for other references when the concerned legislation is not enough for arriving at a decision. Instead of that, the court referred to the judgment given in another case named ‘Charden's Case' dealing with the reversed question that was asked in the case of Arthur Murray. The court found no reason to differ with the decisions of the accountant. And stating the definition of ‘Income' the court stated that a payment is not an income until the goods or services are delivered (Warner, 2016, p.109).
Advice for RIP Pty Ltd when income is derived (i) generally, and (ii) when it derives its income from funeral services and related activities.
RIP Pty Ltd is a company that provides funeral services to the scheme holders in return for a monthly payment, which is termed under ‘Net, 30 days' invoice. The company also receives payment from the scheme holders under insurance externally maintained. The cost of some of the funerals is received by the company by Transport Accident Commission on behalf of the deceased persons. The payment for the cost of the rest of the funeral services is paid by the privately maintained Life Assurance plans. The company has also another source of income. It has a finance arm named RIP Finance Pty Ltd that provides the onetime expenses of a funeral on behalf of the client. The payment is to be made by the client to this finance arm through a series of planned instalment.
Apart from these sources RIP Pty Ltd has another scheme, which generates considerable amount of income for the proprietary. Easy Funeral Plan, by RIP Pty Ltd, offers clients to pay periodic payments so that they can meet the funeral costs of the deceased persons they are maintaining the scheme for. Deaths are sudden in most of the cases. The company thus help the families of the deceased to manage the situation, by providing them a ‘deluxe' arrangement of funeral. As per the proprietor, this is a fixed price contract which means that the price of the contract needs to be fully paid at the time when the death of the deceased will occur. And if the payment of the contract is not paid by the client, the estate of the concerned person will be billed for it.
In reference to the above-mentioned case of Arthur Murray (NSW) Pty Ltd v FCT (1965), the income source of the company can be divided into two types. The company earned a general income whenever it gets paid for the services it provides to the family of the departed person, at the time of the funeral, directly or from the privately maintained Life Assurance Plans. The rest of the income that RIP Pty Ltd receives the payment of the funerals that it arranges for the deceased person is considered as income from the related activities.
In order to separately categorize the general and other incomes of RIP Pty Ltd the reference of the case of Arthur Murray (NSW) Pty Ltd v FCT (1965), can be discussed. The payments by the willing learners who used to pay Arthur Murray (NSW) Pty Ltd in advance, even before the course has started at the time of the contract was categorized as Advance Payments. According to the rules of accounting practiced under Accrual system of accounting, the earnings for which the goods or services is not received by the customer, cannot be considered as real income on the part of the company.
The Application of the Arthur Murray (NSW) Pty Ltd Principles in Accounting practices of RIP Pty Ltd.
The money that RIP Pty Ltd receives through RIP Finance Pty Ltd is not to be considered as real income of the company as the clients have not asked for any funeral services from the service provider. The income that RIP Pty Ltd receives from the billed estate of the deceased person also needs to be considered as income arose from related activities by RIP Pty Ltd. On the date of 30th June, Easy Funeral Plan, the instalment scheme of the RIP Pty Ltd has $225,000 as credit balance. With increasing number of default customers, the company transfer from easy funeral plan has increased.
The example of Arthur Murray (NSW) Pty Ltd v FCT (1965) verdict can also be applied as the amount that RIP Pty Ltd gets from the billed estate of the clients who have defaulted in the payment, is not refundable under any condition. Therefore, the proprietary can calculate the tax it needs to be paid based on the income that has actually been en-cashed by the company. Precisely, the payments for which the clients have enjoyed the services of RIP Pty Ltd is to be counted as income while calculating the income of the company.
Choice of the Commissioner any Taxpayer in the Method of Accounting for Tax
The taxation commissioner had objected the company's treatment of the advance payment as unrealized income. According to Burkhauser et al. (2015, p.195), in that case, a company does not become liable to pay tax on its unrealized income. Apart from that, the commissioner had shown that as a result of this process the company will be able to enjoy the money kept as unrealized income as the company does not need to pay income tax for the amount of money. As per Bryce et al. (2015, p.153), the amount cannot be regarded as income on the part of the company until and unless the company has provided appropriate goods and services in return of it. The sale process involves both way transaction between the buyer and the seller.
In the case of RIP Pty Ltd, the payments received from the other and related sources will be considered as earnings other than general income. As per Brown et al. (2015, p.51), such income is also recovered by insurance companies from the customers who have defaulted on their payments of premiums.
(b) Advice on the Treatment of Tax of the Company of $16,200 in the Account of Forfeited Payments
It has already been mentioned that RIP Pty Ltd has various other sources of income. One of which schemes, called Easy Funeral Plan offered the clients to pay a series of instalments through periodic payments which will meet the funeral costs of the clients in the future. The amount of money that RIP Pty Ltd used to get from the consumer were shown and credited to a separate account named ‘Fortified Payments Account’. As on 30th June, the account has a balance of $16,200. It is also the collection of money that is credited will the fine paid by the clients who had discontinued the periodic payment under Net, 30 days invoice and opted for Easy Funeral Plan. This type of revenue should be surplus in nature. As per Berg and Davidson (2015, p.47), these type of revenue should be put on the Asset side of the balance sheet.
Advice to the Company about the Trading Stock Nature and Treatment of $25000 for the Purpose of Tax
This case can be related to Section 10 to 70 of Income Tax Assessment Act 1977, which mention about Trading Stock as a factor that is manufactured for sale and exchange purpose and is used for carrying out business activities. As per the rules and regulations of ITAA 1997, Section 8(1), talks about trading of Stocks and the amount that the company has spent amounting to $25000 is subjected to tax calculation under the same Act. An amount of $25,000 as an advanced payment was paid by the company to buy the trading stock and other accessories and casket in order to take advantage of a good discount on the stock, in the month of June in 2016. The delivery of the material will be completed in the month of August in 2016. This is the time when the amount of money will be considered as the payment of money in advance to the vendors. Therefore, the total amount of $25,000 will be shown as expenses under the prepaid section of the current assets in the balance sheet. As per Bennedsen and Zeume (2017, p.1250), the current account of the company consists of the revenues that need to be paid by the company to other parties in near future. That is why a company should never consider these assets in the long-term revenue of the company.
Advice to the Company on Making Adjustments to the Reported Profit of the Company
The concept of Assessable Income is mentioned in Section 44(I) of ITAA Act, 1936. According to Section 207-5 of ITAA 1997, when a corporation receives dividend with regards to cash, it is termed as the profit of the company.
The revenue that has received by the company by RIP Finance Pty Ltd is $21000, which will be considered as a cash dividend of the company. And the amount has to be included in the book of Accounts of the company. This amount will be considered for calculating the tax amount of the company. In order to avoid the double taxation, it will be assumed that the amount has been deducted from the profit of the company to pay the tax of the company. Again the item numbered c) is associated with the amount of $75,000 that the company rendered for the amount that it needs to pay as the rental of the space for storage. This payment is for the financial Years 2016-17 and for 2017-18. A small part of the amount that is $9,500 has been regarded as the expense of the profit and loss account for the year 2016-2017. The remaining $47,500 will be set aside as the advanced payment for the storage space. And this would be viewed under P/L account of 2016-17. However, this payment will be presented at the expense in the Profit and Loss Account of 2017-18.
The item numbered d) is connected with the Leave of Long service. This is done by the companies in order to render long-time services to the employee. They provide this item when they aim to extend the tenure of the service beyond 15 years. This is provided by the company under the subdivision of 83-B of ITAA of 1997. Apart from this RIP Pty Ltd pays $22000 to the Managing Director in the month of June in 2006, as per the Leave of Long Service account.
Explanation of the deductions in Item (e)
As per ITAA 1997, Section 1-8, there is provision for the company to deduct loss from the assessable income whereby the company can incur gain assessable income. In 2013 the Board of Directors of the company took a decision of constructing a new building for the purpose of accommodation. The construction of any building goes through various stages. Similarly, in 2013, the company had to pay $250,000 to the architecture for a preliminary design of the building. After that, the company has also paid a huge amount for acquiring the land and demolishing the existing building. The company also paid $125,000 for car-parking. This cost has occurred on the part of the company in the time period of 2013-16. Therefore, the company allowed for a deduction under the section of 43-20 of ITAA, 1936.
The case study has analyzed all the expenses made by the company up to the period of 2016-2017. The narrative has also considered the income derivatives of RIP Pty Ltd throughout this period. These have been done in reference to the case of Arthur Murray (NSW) Pty Ltd v FCT (1965).
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