Business owners sometimes borrow money from their own company for a variety of personal and financial reasons.
However, there can be an issue with tax law compliance if the proper steps are not carried out in treating the transaction correctly. Division 7a is an integrity measure aimed at preventing companies from making tax-free distributions of profits to shareholders (or their associates). It comes into effect when there is a loan by a company to its owners and associates, i.e. the shareholders of the company. Associates is broadly defined and can include family members and other related entities. Specifically, this tax law covers any monetary benefits including:
- Payments made to a shareholder (or associate) by a private company, including transfers or uses of property for less than market value
- Loans made without specific loan agreements
- Debt forgiveness
These transactions may come under the Division 7a provisions and as such are treated as assessable unfranked dividends to the shareholder or associate, and are taxed accordingly. An assessable unfranked dividend means that there are no franking credits available to the recipient, so the franking tax offset will not apply and the recipient will have to pay tax on the dividends at the usual marginal rate.
However, there are instances where payments will be excluded from Division 7a provisions.
- If the payment is made to a shareholder or associate who is also an employee of the company, then the dividend may be treated as a fringe benefit instead
- Payments of genuine debts may be excluded in some circumstances
- If the loan is entered into formally with a written agreement outlining minimum interest rates and maximum term criteria. However, minimum yearly re- payments of the loan are required in order to avoid the amounts being treated as dividends arising in later years
- Payments or loans excluded by virtue of other tax provisions
Its always best to check with us before you borrow money, we will ensure the right steps are taken.
