The Complexities of Division 7A

It is an area of the Tax Act where many people fail to understand the complexity, and end up in a world of trouble.

As a small business owner, you may not know a lot about Division 7A. This law is commonly referred to as a minefield because of the difficulties surrounding it.

It is an area of the Tax Act where many people fail to understand the complexity, and end up in a world of trouble.

The Tax Office love it because they can make a lot of money out of Division 7A.


What is Division 7A?

Essentially, Division 7A refers to private moneys drawn from your business for the purpose of personal spending. These monies are over and above your wage.

The law was created to prevent profits or assets being provided to shareholders or their associate’s tax free.

As well as doing that, it creates much confusion and pain for small business owners.


Here’s an example

Consider me. I’m a business owner.

I have a number of private drawings, such as school fees for my teenagers, money for family holidays and private loans.

Let’s assume this money amounts to $20,000. That’s $20,000 of private money drawn from the business. That’s over what I have paid tax on. It’s excess money above the wage I am earning.

In a small business, that money is owned by the business. It’s an asset of the business.

Hence, as the business owner, I owe that money back to the business.


The first option

There are two ways to deal with this situation.

You can leave that $20,000 as a loan, which is owned by the business. You will have to pay interest on that loan and pay it the principal back over seven years.

The interest is assessable to the business but NOT deductible to you personally, because it is a private loan provided by your business  a separate legal entity) to you.

Seven year term = Division 7A Unsecured Private Loan.

Paying it back with principal and interest over seven years is a long, paperwork laden and usually more expensive method.


The (much better) second option

The second option is to pay the extra personal tax now and deal with Division 7A immediately.

If you are going to be living on extra funds above your salary from the business for many years to come (this is most people in a growing small business) then this second option is a much cleaner and less expensive way to handle these private payments.

Of course Division 7A only relates to private monies paid to business owners and associates, so you should be structuring your affairs to develop capital growth assets (example properties) in an investment trust, thus, dealing legally with Div 7A.


The bottom line

Having a well-informed tax accountant is vital when it comes to Division 7A. Their knowledge and skills will ultimately save you a lot of money and pain.

If you’d like to speak to a Tax Champion about how your business is structured, and how to avoid any struggles with Division 7A, you can book in for a complimentary consultation with us.

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