17 Apr 2011 | Income Tax
When a business sells and purchases a new asset, such as a motor vehicle, there are three GST traps that need to be avoided. The first relates to how the purchase of an asset is financed and, depending on the way a business accounts for GST, if the wrong type IS used there can be major cash flow implications.
There are two ways a business can account for GST, the cash method or the accrual method. Under the cash method only GST actually collected and paid is accounted for. Under the accrual method GST included in income earned, and expenses incurred, must be accounted for even though the cash has not been received or paid out.
A business using the cash method of accounting therefore in theory can only claim a credit for GST that is actually paid. In practical terms there is a method of finance that allows a business to claim the GST included in the purchase price in the quarter the asset is purchased.
If a hire purchase contract is used to finance the purchase of an asset, and the business uses the cash method, the GST included in the purchase price is claimed over the life of the finance contract. For example a motor vehicle purchased in December 2010, that cost $39,600 using a hire purchase contract over three years, a claim of only $300 for GST input tax credits in the December quarter could be made.
Where a chattel mortgage contract is used the tax office has ruled that businesses using the cash method can claim the GST in full in the quarter when the asset is purchased. Using the facts of the previous example this would result in a claim of $3600 for GST input tax credit in the December quarter.
The GST input tax credit can then be used to either reduce the amount of GST collected in that quarter relating to sales, or it can be used as a one off repayment that will reduce the monthly repayments under the finance contract.
The second GST trap arises when an asset is sold, such as happens when an old motor vehicle is traded in on a new one. Under the GST system virtually all sales by a business must have GST included in the price. As result one eleventh of cash received by a GST registered business must be paid to the tax office.
This means if a motor vehicle is traded in for $11,000 on the purchase of a new vehicle, $1000 of the sale proceeds is GST that must be included on the next quarterly BAS, which results in the business really on your receiving $10,000 for the old motor vehicle.
It is the combination of the two GST traps that can cause an even bigger cash flow problem for a business if they don’t choose the right method of finance. Using the facts of the previous example if a hire purchase contract was used to finance a new motor vehicle costing $39,600, and received $11,000 trade in for the old vehicle, that business would have to include $1000 in GST received in the December quarter, but they could only claim $300 of GST paid leaving a net GST payment of $700.
The final GST trap when it comes to motor vehicles relates to the amount of GST that can be claimed. Where a motor vehicle is used 100 per cent for business purposes all of the GST paid can be claimed. Where it is less than 100 per cent only the business use percentage can be claimed.