Organising and lodging your taxes isn’t the most exciting part of running a small business, yet it’s vital. Understanding the facts and your potential tax savings gives your business the best chance to succeed.
Given the odds of a new company still being open after four years is like flipping a coin. That’s why business owners must take advantage of every cost-saving chance they can find.
So, when it comes to your taxes, make sure you understand the small business income tax offset.
What Is the Small Business Income Tax Offset?
The small business tax offset is a government programme that directly reduces how much tax is payable on the taxable income in a given financial year for qualifying individuals. And to be eligible, you should be running a small unincorporated business by yourself or share of a net small business income.
The current small business tax offset is 16% of the total net business income but is capped at $1,000 per income year.
The small business tax offset aims to stimulate economic growth and help small businesses. With good reason, government data shows just how critical small businesses are to the Australian economy:
- In June 2018, small businesses employed just over 5 million people.
- Industry Value Added (IVA) produced by small businesses has jumped from $335 billion in 2012-13 to $414 billion in 2017-2018 (a 24% increase).
- Between June 2013 and June 2018, small businesses accounted for almost 60% of total private sector employment growth.
Who Is Eligible for the Small Business Tax Offset?
The offset is available to individuals managing small businesses. In general terms, a small business refers to an unincorporated business with an aggregated turnover of less than $5 million for a given income year from 2016-to 2017 onwards.
Unincorporated means the business is not a separate legal entity. The owner is legally responsible for all business activities and debts incurred.
Examples of potentially eligible individuals are:
- Sole traders
- Individuals assessed having an income of a small business entity (e.g. a partner in a partnership or a beneficiary of a trust that qualifies as a small business).
The small business tax offset is for individuals and not companies. However, companies have received a tax cut in recent years through the reduction in the rate of tax applied to small companies from 30% down to 25%.
Changes to the Small Business Tax Rate Australia
The offset to Australia’s small business tax rate and the turnover threshold has increased since it was first introduced in 2015. However, the cap of $1,000 has remained the same.
The table below shows the progressive changes small business income tax offset implemented by the Australian Taxation Office (ATO):
|Aggregated Turnover Threshold
|Rate of Offset
|2016-17 to 2019-20
Small Business Tax Offset Calculation
Calculating your final tax bill is vital to business planning and understanding your future budget. There are three main steps to small business tax offset calculations:
- Determine the percentage of taxable income that comes from small business income for the given financial year. This is a simple ratio of your total net small business income divided by your taxable income. For example, if all of your income comes from small business activities, the ratio is 100%.
- Calculate the tax payable from the total net small business income. For example, suppose the percentage from step 1 is 90% (90% of the individual’s taxable income relates to net small business income). In that case, 90% of the individual’s tax liability is eligible for the small business tax offset.
- Calculate the small business tax offset. Given 16% offset (for the income year 2021-22) and using the example above where 90% of an individual’s income is generated from their small business activity, the final offset would be equal to:
Small business tax offset = 0.16 x 0.90 x tax liability
Remember, the small business tax offset is capped at $1,000. Therefore, if the above calculation is greater, only a $1,000 deduction is applied.
Important things to remember when calculating your small business income tax offset:
- The net small business income for a given income year is the total assessable income for the small business entity minus any deductions.
- The percentage of taxable income from small business income is capped at 100%. Your total net small business income cannot exceed your taxable income. So, if you lose money in non-small business activities that reduce your overall taxable income, it will not be part of your offset calculation.
- The small business tax offset is non-refundable. The excess is lost if the offset is greater than your tax liability.
Example of a Small Business Tax Offset Calculation
So, what does an example of a small business tax offset calculation look like?
Sophie operates as a sole trader. In the 2021-22 income year, she has a taxable income of $100,000 and a basic income tax liability of $25,000. From her small business, she has a total net income of $50,000.
First, Sophie must find the percentage of taxable income that comes from her small business income (total net small business income divided by taxable income):
$50,000 / $100,000 = 0.5 (or 50%)
Half of Sophie’s taxable income is from her small business.
Next, Sophie uses this to find how much of her tax liability comes from her total net small business income:
$25,000 x 0.5 = $12,500
Finally, she applies the small business tax offset (16%) to her tax liability from the small business she runs:
$12,500 x 0.16 = $2,000
Since 16% of her small business tax liability is greater than $1,000, her final small business tax offset is reduced to $1,000.
Small Business Tax Offset Calculator
ATO provides a small business tax offset calculator to help find the income used to determine the final deduction. While it does not calculate the small business tax offset, it instead determines the figure you must input for “Net small business income” on your tax return.
Information you will need before using the small business tax offset calculator includes:
For a sole trader:
- Your business income
- Deductions you are entitled to claim
- Any losses that are shown in your income tax return
For a partner or trust beneficiary:
- The share of net small business income you receive from your distribution statement
- Deductions against your share of net small business income that you are entitled to claim
How to Apply for the Small Business Income Tax Offset
Individuals eligible for the small business income tax offset are not required to apply for it. There is no formal application process to receive the offset.
Instead, when you lodge your tax return for the income year, ATO will automatically determine if you’re eligible (based on the information you provide) and apply the discount.
ATO provides the calculations used to determine the final small business income tax offset on the notice of assessment.
Claim your tax offset today!
While capped at $1,000, the small business tax offset is an important programme for supporting the growth of small businesses. With a reduced tax burden, you can use the money saved to expand your business. Just make sure you use it before June 30.
Take advantage of your tax write-offs by investing in digital solutions and services that speed up your business growth.