Is payment to spouse tax deductible?

Question

My wife and I contribute about equally to each other’s income earning potential and what we would like is to have that reflected in our tax returns. Is a spouse allowed to pay the other for their contributions, and would this type of payment be tax deductible?

By the way thank you for your two books and web site publications they are very informative. Here is our income situation for this year and next year.

Background 2012/13
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My wife and I just had a baby this year and stopped work in September 2012.

My wife wants to pay me $6k for tax return preparation software, and $1k for demonstrating how to use it by doing 3 of her tax returns. The software was custom developed by me and is licenced to her for lifetime use plus updates to keep it in line with changes to legislation.

Her income consisted of $21k (IT contractor to government paid via payroll company) and $10k from parental leave pay. I had an income of $13k (also IT contractor to government paid via payroll company) and $1k net taxable income from investment properties.

From what I can tell none of these incomes are personal services income (PSI), except the $1k for doing 3 tax returns – meaning I can’t make some types of deductions against it (eg payment to an associate).

Background 2013/14
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The baby will be a bit older and my wife can help manage the investment properties and I would like to pay her for that work.

The investment properties will have a net taxable income of $44k (was lower in 2012/13 due to me paying interest in advance). All the investment properties are in my name and I manage 4 of them myself. They are not under any company or trust structures, although ATO did give me an ABN. We have no other income except family benefit A & B of about $5k.

We are living in my wife’s home and it is solely in her name.

I would like to pay my wife $18k for property management work, such as advertising, open homes, signing up tenants, inspections, monitoring rent & arranging repairs. I am using one of the rooms in my wife’s home as a home office. I would like to pay her rent of $5k annually.

I guess the $18k is PSI but as my wife is doing principal work it passes the employment test so the PSI rules don’t apply.

Question: Tax deductibility and administrative requirements
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Is my wife’s payment to me of $6k and $1k tax deductible? Is my payment to my wife of $18k and $5k tax deductible?

Are there any administrative requirements to make these payments? Eg proof of market rates, PAYG registration, ABN setup, partnership.

Answer


Are you a registered tax agent? You can only claim a tax deduction for expenses for assistance in preparing your tax return if the payment is to a registered tax agent or solicitor. Though she would be allowed a tax deduction for buying software to keep her tax records.

Are you sure you want to distribute income to you or to your wife? One of you needs to try and keep their income to around $5,000 to qualify for part B. Will the tax saving of splitting income be worth the loss of Part B? For example the tax rate between $37,000 and $80,000 in 2014 will probably 35% including Medicare. The Part B payment shades out at the rate of 20 cents in the dollar but of course if the low income spouse¡¦s income exceeds $18,200 they will also have to pay tax at the rate of 19 cents in the dollar on the excess. Though with the low income tax offset they won¡¦t actually pay any tax if their income does not exceed $20,542.
Here is a link to the Centrelink part B information
http://www.humanservices.gov.au/customer/enablers/centrelink/family-tax-benefit-part-a-part-b/ftb-b-income-test

Note she is not allowed to receive Part B while on paid parental leave.

It sounds to me that both of your incomes are PSI. Here is a link to my booklet on the topic
http://www.bantacs.com.au/booklets/Alienation_Of_Personal_Services_Income_Booklet.pdf
and of course rental income can only go to the owner of the property though as discussed later yes you can pay her to manage them.

Here are the tax brackets
Up to $18,400 no tax payable or if no more than $20,542 in net taxable income then the low income tax offset will mean no tax payable

$18,200 to $37,000 19% plus medicare if applicable, probably 2%
$37,001 to $80,000 32.5% plus medicare¡K¡K.

To minimise your tax as a couple you only have to be in the same tax bracket not necessarily have the same income. It looks like that would be achieved by moving $4,000 to you in 2012/13. Shame, you reduced your income too well by the prepayment. Consider delaying paying rates or something so you benefit from the tax deduction next year.

In 2013/14 reducing your income to $37,000 by paying your wife $7,000 will save you 32.5% plus Medicare and she won¡¦t pay tax on it but the last $2,000 will reduce her Part B by 20 cents in the dollar. Going more than that will continue to reduce her Part B by 20% but only save you tax of 19%, maybe 21% if Medicare applies. Here is an extract from the budget

Medicare levy low income thresholds
For the 2012/13 income year, the Medicare Levy low income thresholds will be as follows:
„FƒnIndividuals $20,542 (previously $19,404)
„FƒnFamilies $33,693 (previously $32,743)
The additional amount of threshold for each dependent child or student will also be increased to $3,094
(previously $3,007). The Medicare levy threshold for single pensioners eligible to claim the new
Seniors and Pensioners Tax Offset has been increased to $32,279 for the 2012/13 income year.

Yes you can pay your wife for managing the properties for you but it has to be bona fide and market rates. I recommend she keeps a diary of what she does and she will need to obtain an ABN in her name only but not register for GST. AS discussed above it is not worth paying her more than $7,000 if I understand correctly that will take your income down to $37,000 where you are in the 19% tax bracket and she will already be over the amount she can earn without having her part B reduced by 20 cents in the dollar.

Make sure you don¡¦t also pay a real estate to manage the properties.

If you pay your wife rent for an office the deductibility turns on just how necessary and separate the area is but it will expose the house to CGT so don¡¦t do it.

I trust you have read the chapter for young investors in my latest book.

Aside from the issue of paying your wife to look after the rental properties, yes spouses can pay each other for helping them in their job below are some extracts from a Real Estate agent ruling but the principle is the same no matter what occupation. As you can see it is rather restrictive and important to be able to show that the contribution actually increased your income. Nevertheless, you need to consider whether it is worth the loss of Part B.

To directly answer your question about paying a spouse to help you with your wages job I include the following extract from TR 98/6 which you can read in full by going to

http://law.ato.gov.au/atolaw/view.htm?Docid=TXR/TR986/NAT/ATO/00001

TR 98/6

Wages: A deduction is allowable where real estate salespersons who only earn commission income incur a wages expense to provide services and assistance relating directly to their income. However, a deduction is not allowable if the expenditure is private or domestic in nature, such as payments to a spouse for attending social functions. A deduction is not allowable in any case, to the extent that a payment for wages or other services provided by a relative, exceeds a reasonable amount.
Some uncertainty exists as to whether deductions for wages paid to other persons are allowable to real estate employees in receipt of fixed salaries or retainers with or without an entitlement to earn commission income. For this reason, the Commissioner is seeking to test cases under the ATO Test Case Program for Law Clarification (see paragraphs 210 to 215).
Wages
210. A deduction is allowable where real estate salespersons who only earn commission income incur a wages expense to provide services and assistance relating directly to their income. Commission only real estate salespersons perform their work activities under significantly different circumstances to most employees, with considerable flexibility in how they perform their duties. However, a deduction is not allowable to such salespersons if the expenditure is private or domestic in nature, such as payments to a spouse for attending social functions (see Case M55 80 ATC 366; 24 CTBR (NS) Case 30 ). A deduction is not allowable in any case, to the extent that a payment for services provided by a relative exceeds a reasonable amount.
211. Subsection 26-35(1) of the Act applies to deductions claimed for amounts paid to a relative (see definition of ‘relative’ in subsection 995-1(1) of the Act). Under the section, a deduction is only allowable to the extent to which such an amount is no more than a reasonable payment for the services performed. A reasonable payment is the amount that the employee would be expected to pay to an unrelated person with similar skills and experience in performing the same services.
212. Example: Emily, a real estate salesperson employed on a commission only basis, pays her son to deliver advertising literature to households in the district in which she operates. Emily pays her son $25 per hour. The market rate for such services is, however, $10 per hour. Therefore, a deduction is only allowable for the cost of the son’s wages to the extent of $10 per hour.
213. Uncertainty exists as to whether real estate salespersons who are remunerated by a fixed salary or retainer, with or without an entitlement to earn commission, are entitled to a deduction for wages paid to another person. In FC of T v. Green (1950) 81 CLR 313 at 319; (1950) 9 ATD 142 at 147 the High Court concluded that the taxpayer was entitled to a deduction for an annual sum paid to his daughter for her services in acting as a secretary or clerk in relation to the taxpayer’s affairs. The amount paid was in part incurred in connection with the earning of the taxpayer’s income from directors’ fees from directorships at seven companies and for supervising a pharmacy on behalf of a chemist. Latham CJ said (at CLR 319; ATD 147):
‘His Honour found that it was reasonably necessary for the taxpayer to … have a person in attendance … to deal with matters affecting his financial affairs which arose during his absence … The evidence supported these findings. The expenditure, a deduction of which is claimed, was incurred in relation to the management of the income-producing enterprises of the taxpayer. If this is so it is immaterial that there might be a difficulty in holding that the taxpayer was carrying on in a continuous manner an identifiable business of some particular description.
Section 51, it should be observed, is not limited to deductions from income derived as being the proceeds of a business. Section 51 is a general provision relating to deductions claimable in relation to expenses, losses or outgoings incurred in gaining or producing any income whatever and not merely in relation to income derived from a business.’
214. However, the decision in Green can be contrasted with Case M55 80 ATC 366; 24 CTBR (NS) Case 30 . In the latter decision, the taxpayer, a medical technologist employed by a large company, was required to be on call after business hours. He paid his wife to take telephone messages relating to his after hours duties. The Board of Review held that the payments made by the taxpayer to his wife for the telephone answering service was expenditure of a private or domestic nature. Dr G W Beck (Member) said (at ATC 368: CTBR (NS) 242):
‘If an employee pays another party to render some of the services for which the employee is paid this expenditure is not a cost of deriving the income. It can be regarded as a cost of lightening the work load, of gaining time off, of filling a gap in the employee’s competence or, as perhaps is the case here, of rendering service beyond that which he is being paid for, and all expenditure of this kind is private and hence specifically excluded by sec. 51. I really cannot envisage any circumstances in which the payments would not classify as private expenditure, but there might be some.’
215. Given the contrasting decisions on this issue, the Commissioner is seeking to test cases involving real estate salespersons who are remunerated by a fixed salary or retainer with or without an entitlement to earn commission under the ATO Test Case Program for Law Clarification. The Commissioner will also consider cases under the ATO Test Case Program involving claims by real estate employees who are not entitled to earn commission income for advertising, property presentation costs, gifts, greeting cards and referral expenses.

I hope this has not been too hard to follow. You really asked more than one question but I wanted to cover everything so I chose to give you all the information you needed but in point form.

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