Company Money: A Guide For Owners

When you start up a company, it inevitably consumes a lot of time and cash. Much of this is money you have already paid tax on. So, it only seems fair that when the business is up and running the business can pay you back. Right?

There are a myriad of ways that owners look for payback from a company they have invested their time and money into. This can include:

Dividends,
Salary and wages,
Jobs for sometimes underqualified family members,
Cash advances, and
Personal expenses like school fees and nights out.

But, unfortunately once the cash is in the company, it is company money.

So, we will be looking at the flow of money in and out of a company and the problems that trip business owners up.

Key definitions to know:

Dividends: The money paid to shareholders from a company’s profits.

Franking credits: The income tax already paid on company profits.

Unfranked dividend: This dividend has no tax credit associated with it, meaning no company tax has been paid on these profits.

Share capital: The money invested into the company as shares.

Capital Gains Tax: A tax that applies to gains you have made on the sale of capital assets (assets you make money from).

Repaying money loaned to the company:

If you have lent money to your company, you can draw this money back out as a loan repayment. The loan repayment is not deductible to the company but any interest payments made to you will be. This is as long as the owner uses the borrowed money for the company’s business activities (assuming interest has actually been charged on the loan).

Conversely, any repayments made by the company on the loan principal are not income for tax purposes. But, you will need to declare any interest earned in your income tax return. Also, all loans, including the loan term and repayments, should be documented.

Dividends – paying out profits:

Dividends represent company profits that the company pays out to its shareholders. If the company has franking credits from the tax it has paid, it may issue franked dividends. Shareholders can often use these credits to reduce their personal tax liability.

When a private company pays a dividend, it must give shareholders a distribution statement within four months of the financial year’s end. This gives the company time to decide how much of the dividend will be franked.

If any of the shares in the company are held by a discretionary trust then there are some additional issues that will need to be considered. These include:

Whether the trust has a positive amount of net income for the year,
Whether the trust has made a family trust election for tax purposes, and
Who will become entitled to distributions made by the trust for that year.

Share capital is the money invested into the company as shares. Many private companies are set up with a relatively small amount of share capital. However, if a company has a larger share capital balance then there might be scope for the company to undertake a return of share capital to the shareholders. Whether this is possible will depend on the terms of the company constitution and some corporate law issues that need to be addressed.

From a tax perspective, a return of share capital will normally reduce the cost base of the shares for Capital Gains Tax (CGT) purposes. This means that a larger capital gain could arise on future sale of the shares without an immediate tax liability.

That said, you need to consider the tax system’s integrity rules. The risk of triggering these rules increases if the company holds retained profits that it could pay out as dividends.

Shareholder loans, payments and forgiven debts: Using company money:

The tax law has rules (known as Division 7A) that determine how money is treated when taken out of a company. Division 7A is a particularly tricky piece of tax law. Division 7A prevents business owners accessing funds in a way that helps avoid income tax.

When owners take money from a company bank account, accountants often debit the amount to a shareholder’s loan account in the financial statements. However, Division 7A treats these payments, loans, or forgiven debts as dividends for tax purposes unless you have a loan agreement that meets strict requirements. You generally can’t frank these ‘deemed’ dividends.

If you take money out of the company bank account, you can avoid triggering a deemed dividend by either fully repaying the loan or putting it under a complying loan agreement. You must do this before the due date or actual lodgement date of the company’s tax return for that year. A complying loan agreement requires minimum annual repayments over a set period and must meet a benchmark interest rate (4.77% for 2022–23).

For example…

If your company pays your kids’ school fees or you use company funds to pay your personal home loan, you need to either repay the amount or set up a complying loan agreement. If you don’t, the ATO will likely treat the amount as a deemed unfranked dividend. You’ll need to declare it in your personal tax return as a dividend, but without any franking credits. This means you might pay tax again on money the company has already taxed, creating double taxation on the same profits.

The rules are very strict when it comes to loan repayments. If the company repays a loan but then lends the same amount or more to the shareholder shortly after, special rules may apply to effectively ignore the repayment. Some exceptions exist, but you need to manage the situation carefully to avoid adverse tax consequences.

If you’d like assistance with running a business and company, contact us!

This is general advice only and has not been prepared with your situation and needs in mind. For individual and personalised advice, we highly recommend that you seek out proper professional advice from your advisers.