There’s no way around it – doing your business taxes is never fun. However, they’re a necessary exercise, especially when you’re running a small business. Understanding the facts of your potential tax savings can help give your business the best chance of succeeding and prevent wasting money.
Small businesses often fail within the first few years because of poor cash flow rather than a lack of revenue. This means that poor financial decisions are the main culprit of small business failures, so being able to save money anywhere you can is a good way to give your business the best odds of succeeding.
That’s where the small business tax offset comes in! Learn everything you need to know about it below.
What Does Small Business Tax Offset Mean?
The small business tax offset is a government program that directly reduces the tax payable on taxable income in the financial year. Not everyone is eligible, but you can apply if you’re running a small, unincorporated business alone or sharing a net small business income.
In Australia, the current small business tax offset is 16% of your total net business income. This is capped at $1,000 per year.
The main aim of small business tax offset is to help boost economic growth and help small businesses thrive in a usually cutthroat industry. Small businesses are incredibly important to the local economy, increasing employment rates and improving tourism tenfold.
Are You Eligible For Small Business Tax Offset?
The small business tax offset sounds great, but how can you know if you’re eligible for it or not? Well, first of all, you need to have a small business. Generally, small businesses are unincorporated with an overall turnover of less than $5 million for an income year from 2016 to 2017 and onwards.
Unincorporated businesses are not separate legal entities, meaning that you (the owner) are legally responsible for all activities and debts collected while running the business.
You should be eligible if you are a sole trader or a partner in a partnership of a trust that qualifies as a small business. If you’re confused about whether you’re eligible, the Australian Taxation Office (ATO) has more information on the requirements.
How Has The Small Business Tax Rate Changed In Australia?
The small business tax offset was first introduced in 2015, but both the tax rate and turnover threshold have changed since then. Despite this, the $1,000 cap has never changed. Here are the changes the tax offset has seen in the last few years:
Between 2015 and 2016
Aggregated turnover threshold rate: $2 million
Rate of offset amount: 5%
Maximum offset amount: $1,000
Between 2016/17 and 2019/20
Aggregated turnover threshold rate: $5 million
Rate of offset amount: 8%
Maximum offset amount: $1,000
Between 2020 and 2021
Aggregated turnover threshold rate: $5 million
Rate of offset amount: 13%
Maximum offset amount: $1,000
Between 2021 and 2022
Aggregated turnover threshold rate: $5 million
Rate of offset amount: 16%
Maximum offset amount: $1,000
How To Work Out Your Small Business Tax Offset
The ATO will help you work out how much money you can save with the small business tax offset, but if you want to work it out beforehand to get an idea of how much money you might be able to save, you can calculate your final small business tax offset with these three main steps:
1. Know the percentage of taxable income that you earn through your small business
First, you’ll need to know how much taxable income you make from your small business for the entire financial year. To get this, you’ll need to divide your total net small business income by the taxable income to get a ratio. For example, if all your income comes from your small business, your ratio will be 100%. If you have another job, your ratio will be lower depending on how much extra income you’re getting from your employer.
2. Calculate your tax payable from your total net small business income
Now you’ll be able to calculate how much tax you’ll need to pay from your overall small business income. With your ratio, you can work out how much of your tax liability is eligible for deductions. For example, if your ratio works out to be 90%, this means that 90% of your tax liability is eligible for the small business tax offset program.
3. Work out your small business tax offset
Now you can work out how much you’ll be able to save with the small business tax offset program. As the current offset is 16%, and if we use our example of 90% from above, we can calculate that the final offset would be:
0.16 (current offset) x 0.90 (your taxable income ratio) x tax liability = small business tax offset
This calculation will give you the ability to get a rough idea of how much money you should be able to save. However, the ATO will do the final calculation, so it’s possible that your calculated amount might differ from the final offset amount. Remember that the amount will be capped at $1,000, so your calculation might work out to more than you’re eligible for.
Small Business Tax Offset Example
We know that calculations can be difficult to wrap your head around, especially when you’re thrown a load of hypothetical equations and are simply told to work it out. That’s why we’ve included this example of calculating small business tax offset, so hopefully you’ll be able to swap our example numbers for your true figures and work out how much you could save.
Here’s our example:
Gillian is a sole trader of a small business and is working out her taxes for the financial year. In the 2022 to 2023 financial year, she has a taxable income of $50,000 with a basic income tax liability of $10,000. Her small business generates a total net income of $25,000.
The first thing Gillian needs to do is work out the ratio of her taxable income that’s generated from her small business:
$25,000 / $50,000 = 0.5 or 50%
This means that half of Gillian’s taxable income comes from her small business, and she’ll be able to use this figure in the next step. This is how much of her tax liability comes from her total net small business income:
$10,000 x 0.5 = $5,000
Now she has this figure, Gillian can apply the current small business tax offset to her tax liability from her small business, working out her small business tax liability:
$5,000 x 0.16 = $800
As this is lower than the cap of $1,000, Gillian’s final small business tax offset will be $800.
Using A Small Business Tax Offset Calculator
Still having issues working out your tax offset? It can be difficult when you don’t have rounded numbers to use, which is why ATO offers a small business tax offset calculator for you to use. This doesn’t actually calculate your exact small business tax offset, but it will give you the figure you need to put for your ‘net small business income’ on your tax return.
When using this calculator, you’ll need to know:
- Your business income
- Tax deductions you’ll need to claim
- Any losses your income tax return shows
Applying For The Small Business Tax Offset
There’s no need to apply for the small business tax offset, and the ATO doesn’t offer a formal application process for it. When you lodge your tax return, the ATO will recognise whether you’re eligible or not and apply the discount if you are. They will use the calculations we’ve detailed above to work out what you’re entitled to, so this is a great way to estimate how much you could save for the financial year.
Final Thoughts
The small business tax offset is an excellent government program that can help many small businesses save money and improve their cash flow management. The current tax offset is 16% with a cap of $1,000 for the financial year. You don’t need to apply for this program, as the ATO will deduct the amount you’re entitled to automatically from your tax return. However, you can work out how much you could save beforehand by using the equation we’ve looked at above.
Book A Free Strategy Meeting With A Business Accountant Today
Running a small business is tough, especially when you have to manage every single aspect of it on your own! Hiring a business accountant can help you work out your projected small business tax offset and figure out the best place to use this saved money for the future of your business. Most small businesses fail due to poor cash flow management, so why not book a free strategy meeting with Walker Hill to discuss your options today?
