Tax planning arrangements that go beyond what the law intended are tax avoidance schemes. These schemes involve deliberate approaches to exploit the tax system. The way an arrangement is structured, the financing, documentation and advice offered can all be indicators of a suspect scheme. Because some tax schemes are very cleverly dressed up as legitimate arrangements, it’s important to know what to look for regarding the advice and documentation, finance and structure of the scheme.
Advice and documentation
Be wary of promoters that:
- offer zero-risk guarantees for their product.
- refer you to a particular adviser or expert (they may claim the adviser has specific knowledge. about the arrangement and the promised tax benefits).
- ask you to maintain secrecy to protect the arrangement from rival firms.
- discourage you from obtaining independent advice.
- do not have a product disclosure statement (PDS) or prospectus for the product.
Many tax schemes are promoted with mechanisms to help you finance your involvement. The following are red flags:
- ‘Round robin’ financing, where the funds are passed through various entities and, usually, back to the initial entity (for example, the promoter lending you the money to invest in the product).
- ‘Non-recourse’ loans that you don’t have to repay if the investment goes bad (the lender has no recourse under the terms of the loan to pursue the debt if you fail to repay it).
- Complex financing arrangements involving limited recourse loans, where your liability is limited to your share in the investment.
- Investments that are primarily funded through tax deductions – for example, by including substantial interest prepayments in a financial year.
The way an arrangement is structured can indicate it might be a scheme. Be careful of any arrangement that involves:
- deferring income to a later tax period so the tax is paid in a later period too.
- not declaring income or hiding income (for example, in an offshore location such as a tax haven).
- changing the nature of the income so less tax is paid, for example, changing capital expenses into revenue expenses.
- changing private expenses into business expenses so they can be claimed against income.
- creating an entitlement to a tax offset or credit that wouldn’t otherwise have been available.
- moving income to a trust or partnership to split it among people in a lower tax bracket so less tax is paid.
- inflating or artificially creating deductions.
- moving taxable income to an entity that is tax exempt or has a lower tax rate, such as a charity, company or super fund.
- setting up a business for the sole purpose of obtaining tax benefits – that is, there is no business purpose to the arrangement.
Don’t take the promoter’s guarantee that there is no risk in participating in the arrangement. If it has any of the above features seek independent advice before doing anything.
For more information, check the ATO website at www.ato.gov.au/General/Tax-planning.