Many professionals operate a service entity as part of their business structure. This is a sensible approach as these service entities afford the taxpayer with the added benefit of providing an appropriate vehicle for asset protection as well as greater flexibility with income tax planning.
However, for some years these types of arrangements have come under closer scrutiny by the Australian Tax Office (ATO) and have since remained on the ATO’s radar screen as a high risk structure for an audit.
The ATO has identified that it will continue close scrutiny of taxpayers using these types of structures.
The ATO has made it clear what elements it considers would place service entities at risk. Arrangements with related parties generally involve a greater level of potential tax compliance risk. The ATO’s attention will be drawn to arrangements with related parties that are not well documented and that do not have the elements usually associated with a commercial activity.How close the ATO will look will look at this entities will depend on the following elements:
- the service entity must be commercially based;
- the service arrangement must have a connection to the income earning activities of the business and enhance, assist or improve the ability of the business to produce income or make profits;
- there must be adequate documentation recording the administration and management of the service entity in the provision of its service to the business;
- there must be identifiable staff and resources used by the service entity.
So what can be done to lessen your risk of audit?
We recommend as a minimum that you ensure:
- you have a written agreement in place setting out the arrangement between the service entity and business;
- that the agreement is regularly reviewed;
- that you raise periodic tax invoices;
- that your agreement documents its pricing structure and service fee calculations;
- there are separate accounting systems in place; and
- you retain proper and complete business records.
Have you reviewed your, or your clients, service agreement to ensure it is in-line with the ATO’s expectations?
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