The ATO estimates that incorrect reporting of rental property income and expenses is costing around $1 billion each year in forgone tax revenue. A big part of the problem is how taxpayers are claiming interest on their investment property loans.
We’ve seen an uptick in ATO activity focussing on refinanced or redrawn loans. This activity is a result of a major data matching program of residential property loan data from financial institutions from 2021-22 to 2025-26. This data is being matched to what taxpayers have claimed on their tax returns. Those with anomalies can expect contact from the ATO to explain the discrepancy.
If you have an investment property loan and redraw on the loan for a different purpose to the original borrowing, the loan account becomes a mixed purpose account. Interest accruing on mixed purpose accounts need to be apportioned between each of the different purposes the money was used for.
On the other hand, if the redrawn funds are used to produce investment income, then the interest on this portion of the loan should be deductible.
For example, if you have redrawn on the loan to pay for a private holiday, or pay down personal debt, then the interest relating to this portion of the loan balance is not deductible. Not only will the interest expenses need to be apportioned into deductible and non-deductible parts, but repayments will normally need to be apportioned too.
Withdrawals from an offset account are treated as savings rather than a new borrowing. If you have a loan account and an interest offset account is attached to this account that reduces the interest payable on the loan, withdrawing funds from the offset account will typically increase the amount of interest accruing on the loan, but won’t change the deductible percentage of the interest expenses. That is, when you withdraw funds from the offset account this is really a withdrawal of savings and won’t impact on the extent to which interest accruing on the loan account is deductible.
If you have a home loan that was used to acquire your private home and you have funds sitting in an offset account, withdrawing those funds to pay the deposit on a rental property won’t enable you to claim any of the interest accruing on the home loan. However, if you redraw funds from the home loan to acquire a rental property then interest accruing on this portion of the loan should be deductible. The tax treatment always depends on how the arrangement is structured.
Think you might have a problem? Contact us and we can investigate the issue before the ATO contact you.
The tax treatment of this unpaid amount was at the centre of a recent case before the Administrative Appeals Tribunal (AAT) that saw a taxpayer successfully challenge the ATO’s long held position (Bendel and Commissioner of Taxation [2023] AATA 3074). For many years, the ATO’s position has been that if a trust appoints income to a private company beneficiary but does not actually make the payment, this unpaid amount can be treated as a loan. Under Division 7A of the tax rules, these loans can be taxed as unfranked dividends unless they are managed using a complying loan agreement with annual principal and interest repayments.
This AAT decision challenges an important ATO position, with the tax outcomes being potentially significant for trust clients that currently owe (or may have owed in the past) unpaid trust entitlements to related private companies.
But this is not the end of this story. On 26 October 2023, the Tax Commissioner lodged a notice of appeal to the Federal Court. There is no guarantee that the Federal Court will reach the same conclusion as the AAT. We will need to wait and see.
As the case progresses, we will let you know about the impact.
Quote of the month
“Do your little bit of good where you are; it’s those little bits of good put together that overwhelm the world.”
Workers are owed over $3.6 billion in superannuation guarantee according to the latest Australian Taxation Office estimates – a figure the Government and the regulators are looking to dramatically change.
Superficially, the statistics on employer superannuation guarantee (SG) compliance look pretty good with over 94%, or over $71 billion, collected without intervention from the regulators in 2020-21.
The net gap in SG has also declined from a peak of 5.7% in 2015-16 to 5.1% in 2020-21. The COVID-19 stimulus measures helped drive up the voluntary contributions with the largest increase in 2019-20, which the Australian Taxation Office (ATO) says they “suspect reflects the link between payment of super contributions and pay as you go (PAYG) withholding by employers. PAYG withholding is linked to the ability to claim stimulus payments such as Cash Flow Boost.”
Despite these gains, a little adds up to a lot and 5.1% equates to a $3.6 billion net gap in payments that should be in the superannuation funds of workers. Lurking within the amount owed is $1.8 billion of payments from hidden wages. That is, off-the-books cash payments, undisclosed wages, and non-payment of super where employees are misclassified as contractors.
In addition, the ATO notes that as at 28 February 2022, $1.1 billion of SG charge debt was subject to insolvency, which is unlikely to ever be recovered. Quarterly reporting enables debt to escalate before the ATO has a chance to identify and act on an emerging problem.
Employers should not assume that the Government will tackle SG underpayments the same way they have in the past with compliance programs. Instead, technology and legislative change will do the work for them.
Single touch payroll matched to super fund data
Single touch payroll (STP), the reporting mechanism employers must use to report payments to workers, provides a comprehensive, granular level of near-real time data to the regulators on income paid to employees. The ATO is now matching STP data to the information reported to them by superannuation funds to identify late payments, and under or incorrect reporting.
Late payment of quarterly superannuation guarantee is emerging as an area of concern with some employers missing payment deadlines, either because of cashflow difficulties (i.e., SG payments not put aside during the quarter), or technical issues where the timing of contributions is incorrect. Super guarantee needs to be received by the employee’s fund before the due date. Unless you are using the ATO’s superannuation clearing house, payments are unlikely to be received by the employee’s fund if the quarterly payment is made on the due date. The super guarantee laws do not have a tolerance for a ‘little bit’ late. Contributions are either on time, or they are not.
When SG is paid late
If an employer fails to meet the quarterly SG contribution deadline, they need to pay the SG charge (SGC) and lodge a Superannuation Guarantee
Statement within a month of the late payment. The SGC applies even if you pay the outstanding SG soon after the deadline. The SGC is particularly painful for employers because it is comprised of:
- The employee’s superannuation guarantee shortfall amount – i.e., the SG owing.
- 10% interest p.a. on the SG owing for the quarter – calculated from the first day of the quarter until the 28th day after the SG was due, or the date the SG statement is lodged, whichever is later; and
- An administration fee of $20 for each employee with a shortfall per quarter.
Unlike normal SG contributions, SGC amounts are not deductible, even if you pay the outstanding amount.
And, the calculation for SGC is different to how you calculate SG. The SGC is calculated using the employee’s salary or wages rather than their ordinary time earnings (OTE). An employee’s salary and wages may be higher than their OTE, particularly if you have workers who are paid overtime.
It’s important that employers that have made late SG payments lodge a superannuation guarantee statement quickly as interest accrues until the statement is lodged. The ATO can also apply penalties for late lodgment of a statement, or failing to provide a statement during an audit, of up to 200% of the SG charge. And, where an SG charge amount remains outstanding, a company director may become personally liable for a penalty equal to the unpaid amount.
The Danger of misclassifing contractors
Many business owners assume that if they hire independent contractors, they will not be responsible for PAYG withholding, superannuation guarantee, payroll tax and workers compensation obligations. However, each set of rules operates slightly differently and, in some cases, genuine contractors can be treated as if they were employees. There are significant penalties faced by employers that get it wrong.
A genuine independent contractor who is providing personal services will typically be:
- Autonomous rather than subservient in their decision-making;
- Financially self-reliant rather than economically dependent on your business; and
- Chasing profit (that is, a return on risk) rather than simply accepting a payment for the time, skill and effort provided.
‘Payday’ super from 1 July 2026
The Government intends to introduce laws that will require employers to pay SG at the same, or similar time, as they pay employee salary and wages. The logic is that by increasing the frequency of SG contributions, employees will be around 1.5% better off by retirement, and there will be less opportunity for an SG liability to build up where the employer misses a deadline.
Originally announced in the 2023-24 Federal Budget, Treasury has released a consultation paper to start the process of making payday super a reality. Subject to the passage of the legislation, the reforms are scheduled to take effect from 1 July 2026.
What is proposed?
The consultation paper canvasses two options for the timing of SG payments: on the day salary and wages are paid; or a ‘due date’ model that requires contributions to be received by the employee’s superannuation fund within a certain number of days following ‘payday’. A ‘payday’ captures every payment to an employee with an OTE component.
The SGC would also be updated with interest accruing on late payments from ‘payday’.
Currently, 62.6% of employers make SG payments quarterly, 32.7% monthly, and 3.8% fortnightly or weekly.
We’ll bring you more on ‘payday’ super as details are released. For now, there is nothing you need to do.
If you would like our assistance in with any of the above, please do not hesitate to contact us.
Tanya Dalton- Forbes Contributor
We often ask, “How can I be more productive?” But maybe we are asking the wrong question.
For decades, people have been told that time management is the key to productivity. We’ve been taught to create schedules, make to-do lists, and to try getting as much done in as little time possible. But what if this approach is actually doing more harm than good? What if our obsession with time is actually killing our productivity?
As a productivity expert running multiple successful businesses since 2008, I used to be obsessed with time management. I felt I had mastered the art of managing time— I had eliminated unnecessary meetings and even introduced a four day work week, but my team and I still struggled with overwhelm.
However, in the midst of the pandemic, something remarkable happened. When I shifted my focus away from tracking my team’s hours and prioritized the quality of their work instead, our productivity soared. It wasn’t about working remotely; it was that I stopped trying to manage time.
As a society, we’ve unknowingly created work models where we measure productivity in time—not in the quality of the work. We’ve been focusing on efficiency over effectiveness. It’s time for a new approach to work that doesn’t leave us feeling exhausted and unsatisfied.
The Myth of Time Management
The fallacy of time management lies in the belief that time is a controllable factor that can be managed like any other resource. In reality, time is a finite and elusive resource that cannot be controlled or manipulated.
In today’s fast-paced and dynamic business environment, it is becoming increasingly clear that traditional time-oriented models of working are no longer effective. Trying to fit as many tasks as possible into a day, using time management techniques like to-do lists, the Promodo Technique or multitasking give a false sense of control over time; they don’t address the fundamental problem of time being a finite resource. Plus they have the added side effect of creating more errors and lower quality work—making you unproductive.
By focusing mainly on time, we end up neglecting other important factors, such as creativity, collaboration, and innovation.
A Task-Oriented Approach
A task-oriented approach to productivity and work can be a more effective solution. Rather than focusing on the number of hours worked, instead, we prioritize the tasks over time. By making this shift, we place the focus on quality rather than the quantity of work accomplished. Meaning, we spend more effort on tasks that align with the goals and values of the company rather than getting caught up in the busy work.
But, while a task-oriented approach may be more focused on quality than a time-oriented approach, it completely ignores a key resource—time. We cannot pretend time does not exist.
Deadlines are a critical component of productivity and should be used strategically to help team members focus on the most important tasks. When deadlines are clear and realistic, individuals are better able to focus on completing tasks in a timely manner.
A Modern Model for Work and Productivity
The time-focused 40-hour workweek is a relic of the factory days gone by. This rigid scheduling model was actually created 100 years ago to make assembly lines faster—it’s not the most effective model for modern productivity. With the rise of remote work, flexible schedules, and generative AI, a new approach is needed to truly optimize productivity.
When I started using a modern hybrid model for productivity—blending task and time oriented ways for thinking, my team and I were more productive. It helped us simplify the business and every team member found more meaning in our work (and our profit margin reflected that).
Here’s the top three strategies I used to see an immediate boost in my team’s productivity:
Focus on Outcomes
One of the key strategies is shifting to prioritizing outcomes rather than time. Instead of focusing on the number of hours worked (or tasks completed), leaders should focus on their desired results. This requires setting clear goals for each project or task. By communicating clear metrics for success and proposed outcomes, business leaders can provide their team with a clear sense of purpose and direction.
To shift the focus from time management to outcome management, business leaders should communicate to their team that the focus is on achieving results, rather than simply completing tasks within a certain timeframe.
By setting clear metrics for success and tracking progress towards those metrics, this allows team members to see the impact of their work and make data-driven decisions. When focusing on outcomes, you create a results-driven culture enabling your employees to work towards shared goals and ultimately achieve greater success.
Encourage Autonomy
Empowering team members to take ownership of their work and make decisions is another key strategy for implementing this hybrid approach. By giving team members autonomy, leaders can allow them to work more deeply on key tasks, rather than fixating about time constraints. Because they are no longer playing “beat the clock” their attention becomes laser focused on the most important tasks.
To encourage autonomy, leaders should be open to adjusting deadlines or shifting priorities based on changing circumstances or new information. Provide clear guidelines and expectations for tasks, but trust your team members to make decisions and work independently.
By promoting autonomy, you can create an environment where employees feel empowered and engaged, which can lead to better outcomes and greater success for your business.
Communicate Priorities
Clear communication is essential for any successful team, and this is especially true when it comes to prioritizing. Leaders should communicate objectives for the quarter and provide regular updates on progress towards those goals. This helps to ensure that everyone is aligned and working towards the same outcomes.
To communicate priorities effectively, leaders need to prioritize tasks based on importance, rather than time constraints. This means focusing on the tasks that are most critical to achieving the overall goals of the business. Leaders should also make sure that everyone understands how their individual tasks contribute to the larger picture.
By communicating priorities effectively and creating an environment that supports deep work, you can help your team members to stay focused and achieve collaborative goals more effectively. This can ultimately lead to better outcomes and greater success.
As a business leader, it’s important to recognize that time is a finite resource that cannot be managed or controlled. Instead, by prioritizing quality over quantity and focusing on outcomes, we can achieve greater success and create a more fulfilling work environment for ourselves and our teams.
Let’s rethink time management and embrace a new approach to work that integrates task-oriented productivity with a focus on outcomes.
The Australian Taxation Office have released a new draft ruling on self-education expenses. We revisit the deductibility of self-education expenses and what you can and can’t claim.
If you undertake study that is connected to your work you can normally claim your costs of that study as a tax deduction – assuming your employer has not already picked up your expenses. There is also no limit to the value of the deduction you can claim.
While this all sounds great and very encouraging there are still issues to consider before claiming your Harvard graduate degree, accommodation, and flights as a self-education expense.
Clients are often surprised by what cannot be claimed. Self-education expenses are not deductible if you are undertaking the education to obtain a new job or something not connected to how you earn your income now. Take the example of a nurse’s aide who attendees university to qualify as a registered nurse. The university degree and the expenses associated with degree are not deductible as the nursing degree is not sufficiently connected to their current role as a nurse’s aide.
The ATO have recently released a new draft ruling on self-education expenses. While the ruling does not introduce new rules, it does reinforce what the ATO will accept…and what they won’t.
Personal development courses
While not always the case, one of the key challenges in claiming deductions for self-development or personal development courses is that the knowledge or skills gained are often too general. Take the example of a manager who is having difficulty coping with work because of a stressful family situation. She pays for and attends a 4-week stress management course.
In that case, the stress management course is not deductible because the course was not designed to maintain or increase the skills or specific knowledge required in her current position.
When your employment ends part the way through your course
If your employment (or your income earning activity) ends part the way through completing a course, your expenses are only deductible up to the point that you stopped work. Anything from that point forward is not deductible (that is until you obtain a new role and assuming the course remains relevant).
Overseas trips with some work thrown in
Overseas study tours are deductible in limited circumstances. If you are travelling overseas, you need to prove that the dominant purpose of the trip is related to how you earn your income. Factors that help demonstrate this include the time devoted to the advancement of your work related knowledge, the trip not being merely recreational, and that the trip was requested by or supported by your employer. The ATO are strict on this. Take the example of a senior lecturer in history at a University. He takes a trip to China with his wife while on leave over the Christmas break to update his knowledge on his area of academic interest. While his job does not require him to undertake research, he incorporated some of the 600 photos he took and some of the learnings from the tour into the courses he teaches. Despite having a relationship to work, the trip is not deductible as, while relevant in some ways to his field of activity, it is incidental to the overall private and recreational nature of the trip.
Overseas conference with some recreation thrown in
We’ve all had them. Conferences where you spend a few days in sessions and then a day (or more) of touring or golf. When the dominant purpose of the trip is related directly to your work, then the ATO are more accommodating. If the leisure time, for example an afternoon tour organised by the conference, is incidental to the conference itself, then you can claim the full conference expenses. Where you are extending your stay beyond the conference dates and this isn’t considered incidental, then you apportion the expenses and only claim the portion related to the conference. Let’s say you attend a conference for four days, then spend another four days on holiday. Assuming the conference is directly related to your work, you can claim your expenses related to the conference (assuming they were not picked up by your employer), and half of your airfare (as it’s a 50/50 split on how you spent your time between the conference and recreation).
Not fully deductible? Part of the course might qualify
If a particular course is not entirely deductible, a deduction may still be available for some of the course fees where there are particular subjects or modules in that course that are sufficiently related to your employment or income earning activities. In these cases, the course fees would be apportioned. Take the example of a civil engineer who is completing her MBA. While the MBA itself may not have a sufficient connection to her engineering role to be fully deductible, her expenses related to the project management subject she took as part of the degree could qualify.
A warning on large claims
There is no limit on the amount you can claim as a self-education expense but the ATO is more likely to target large self-education expenses. For anyone who has completed post graduate study you know that these expenses can ratchet up very quickly, particularly when you add in any other expenses such as books or travel. It’s important to ensure that there is a clear connection between your current job or business activity and the self education expenses before you claim them. Airfares incurred to participate in self-education, provided you are not living at the location of the self-education activity, are deductible. Airfares are part of the cost of undertaking the self-education activities.
Please contact us should you have self education questions.
$20k deduction for ‘electrifying’ your business Electricity is the new black. Gas and other fossil fuels are out. A new, limited incentive nudges business towards energy efficiency. We show you how to maximise the deduction! The small business energy incentive is the latest measure providing a bonus tax deduction to nudge the investment behaviour of small and medium businesses, this time towards more efficient energy use and electrification. Fossil fuels are out, gas is out, electricity is the name of the game.
Legislation before Parliament will see SMEs with an aggregated turnover of less than $50 million able to claim a bonus 20% tax deduction on up to $100,000 of their costs to improve energy efficiency in the business. But, the tax deduction is time limited. Assuming the legislation passes Parliament, you only have until 30 June 2024 to invest in new, or upgrade existing assets. How much? Your business can invest up to $100,000 in total, with a maximum bonus tax deduction of $20,000 per business entity. The energy incentive is not provided as a cash refund, it either reduces your taxable income or increases the tax loss for the 2024 income year.
What qualifies?
The energy incentive applies to both new assets and expenditure on upgrading existing assets. There is no specific list of assets that can qualify. Instead, the rules provide a series of eligibility criteria that need to be satisfied.
First, the expenditure incurred in relation to the asset must qualify for a deduction under another provision of the tax law. If your business is acquiring a new depreciating asset, it must be first used or installed for any purpose, and a taxable purpose, between 1 July 2023 and 30 June 2024. If you are improving an existing asset, the expenditure must be incurred between 1 July 2023 and 30 June 2024. If your business is acquiring a new depreciating asset the following additional conditions need to be satisfied: · The asset must use electricity; and · There is a new reasonably comparable asset that uses a fossil fuel available in the market; or · It is more energy efficient than the asset it is replacing; or · If it is not a replacement, it is more energy efficient than a new reasonably comparable asset available in the market; or · It is an energy storage, time-shifting or monitoring asset, or an asset that improves the energy efficiency of another asset. If you are improving an existing asset the expenditure needs to satisfy at least one of the following conditions: · It enables the asset to only use electricity, or energy that is generated from a renewable source, instead of a fossil fuel; · It enables the asset to be more energy efficient, provided that asset only uses electricity, or energy generated from a renewable source; or · It facilitates the storage, time-shifting or usage monitoring of electricity, or energy generated from a renewable source.
What doesn’t qualify?
Certain kinds of assets and improvements are not eligible for the bonus deduction, including where the asset or improvement uses a fossil fuel. So, hybrids are out. Solar panels and motor vehicles are also excluded. In addition, the following assets are specifically excluded from the rules: · Assets, and expenditure on assets, that can use a fossil fuel; · Assets, and expenditure on assets, which have the sole or predominant purpose of generating electricity (such as solar photovoltaic panels); · Capital works (such as buildings and structural improvements); · Motor vehicles (including hybrid and electric vehicles) and expenditure on motor vehicles; · Assets and expenditure on an asset where expenditure on the asset is allocated to a software development pool; and · Financing costs, including interest, payments in the nature of interest and expenses of borrowing.
What does qualify?
The legislation contains a few examples of what would qualify: · Electrifying heating and cooling systems · Upgrading to more efficient fridges and induction cooktops (for example replacing gas cook tops) · Installing batteries and heat pumps · Installing an electric reverse cycle air conditioner instead of a gas heater · Replacing a coffee machine with a more energy efficient coffee machine if the manufacturer’s electricity consumption information supports this – keep the documentation! · Thermal storage that can store heat or cold from a renewable source · Solar thermal hot water system (assuming it meets the other criteria) The legislation to implement the energy incentive is before Parliament. We’ll keep you updated on its progress. If you intend to make a major outlay to take advantage of the bonus deduction, talk to us first just to make sure it qualifies.
Please contact us for more clarity in this area.
Quote of the month
“Grit is about doing the hard work, day in and day out, without immediate reward.” Angela Duckworth, academic and psychologist
Source: Forbes
To succeed as an entrepreneur today, you need to take in a constant influx of information. But you also need to know when to lock it down and listen to nothing but your own internal voice. The model of the highly disciplined, overscheduled overachiever just isn’t functional when technology means ’round-the-clock access to you and your energy.
Sure, you sometimes need to put in long, grueling hours to succeed. But if you don’t take breaks, the constant stress will burn you out, which serves nobody. To invest in yourself as a leader, emphasize balance over a high-speed, pressure-cooker lifestyle. Some of these tips may seem a bit counterintuitive, but they’ll boost your odds of long-term success.
1. Treat Your Body Right
First things first: Get. Enough. Sleep. The idea that successful entrepreneurs never rest is a myth the business world needs to stop perpetuating, for everyone’s sake.
As reported in KillerStartups, researcher and author Thomas Corley found that 89% of self-made millionaires get at minimum seven hours of sleep per night. Without proper rest, your brain can’t make the kinds of high-stakes decisions successful leaders face every day.
And if you want to improve your sleep quality, and virtually other metric of your health and happiness, get some exercise. Successful leaders share the habit of engaging in at least 30 minutes of cardio a day. Like sleep, exercise improves your cognitive function so you can make the best decisions for your business.
Nutrition likewise has a powerful impact on your leadership skills — and a domino effect on everything else in your life. Your diet can make or break your mental acuity. It’s crucial to feed yourself well if you want to steer your company to success.
2. Set Goals That Spark Joy
Once you’ve got those Maslow needs covered, it’s time to think bigger. What are your long-term financial and personal goals, and what does success mean to you?
According to Corley, you need to make sure all your goals are truly yours. Yes, you need to be focused on building your business and saving for the future. But don’t fall into the trap of trying to measure up to others.
In his research, Corley found that pursuing one’s own dreams and goals resulted in the greatest long-term happiness and wealth accumulation. In other words, being happy —both at and outside of work — can actually earn you more money.
So look for what brings you joy and motivates you to perform at your best. It could be the adrenaline of achieving greater market share or having the flexibility to spend more time with your loved ones. It doesn’t matter what your objectives are. You’ll still go further in business if you’re chasing goals that light you up.
3. Make Time for Other Passions
On that note, if what makes you happiest isn’t always what pays, that’s OK. Make time for hobbies, passion projects, travel, and anything else that feels intuitively, holistically good.
You may tell yourself you don’t have time, between exercising, eating right, and putting in long hours at work. But don’t convince yourself that every minute of your time should be “productively.” You’ll only burn out, causing both you and your company to suffer.
By contrast, throwing yourself into your hobbies actually makes you a better entrepreneur. A hobby can be the inspiration for a new innovative offering or business practice. It can also help you build connections with other successful, highly motivated people.
As an entrepreneur, you know that your lifestyle takes a certain kind of spark that not everyone has. The kinds of people who prioritize interesting, creative lives tend to be the most successful. Be one of them, and in the process, you’ll meet people who can help you learn, grow, and network.
4. Protect Your Time
There’s really only one way to make sure you can manage any or all of the above. You need to be extremely protective of your time. This doesn’t necessarily mean implementing rigid time management methods — though if they work for you, feel free to continue using them.
What it definitely means is being super clear on your priorities and giving a firm “no” to anything or anyone that interferes. Plan your day not around how many hours you work, but around the actions that make you most functional and effective.
Protecting your time can take a million different forms. Maybe it’s marking yourself “busy” on your calendar, turning your phone off, and wearing noise-canceling headphones. Or perhaps it’s delegating tasks to junior workers, then locking your office door and meditating for 20 minutes. It’s not the method that matters; it’s finding the way that works best for you.
Striking the Right Balance
The life of an entrepreneur hasn’t gotten any easier. That’s why it’s more important than ever to find internal sources of stability and resilience. A successful business needs a firm, steady hand to guide it. So take care of yourself first, and give yourself the fuel you need to make your company soar.
We are happy to work with you on a personal plan to assist you to achieve the above.
Contact us to find out more.
What is the end game for your business? Succession is not just a topic for a TV series or billionaire families, it’s about successfully transitioning your business and maximising its capital value for you, the owners.
When it comes to generational succession of a family business, there are a few important aspects:
- Succession of the business;
- Succession of the ownership of the business;
- Succession planning/pathway; and
- Moving from a business family to an investment family.
For generational succession to succeed, even if that succession is the sale of the business and the management of the sale proceeds for the benefit of the family, communication is essential. Where generational succession fails, it is often because succession has not been formalised until a catalyst event or retirement planning requires it.
A concept of ‘legacy’ is not enough. Successful succession occurs when the guiding principles of governance, family rules, aligning values, dispute resolution, succession and estate planning are managed well before discontent tears it apart.
Generational succession usually involves the transfer of an interest in a business to another generation of a family (usually younger). It is often a family in business rather than simply a family business.
“One-third of Australian family businesses expect that the next generation will become the majority shareholders within 5 years time. Yet only 25% of Australian family businesses have a robust, documented and communicated succession plan in place.”
PWC Family Business Survey
The options for how a movement of an interest may occur are many and varied but usually focus on the transfer of some or all of the equity held in the business over a period or at a defined point in time and the payment of some form of consideration for the equity transferred. Alternatively, a part of the equity transfer may ultimately be dealt with through the estate.
Generational succession comes with its own set of issues that need to be dealt with:
Capability and willingness of the next generation
A realistic assessment of whether the business can continue successfully after the transition. In some cases, the older generation will pursue generational succession either as a means of keeping the business in the family, perpetuating their legacy, or to provide a stable business future for the next generation. While reasonable objectives, they only work where there is capability and willingness. Communication of expectations is essential.
Capital transfer
Consider the capital requirements of the exiting generation. To what extent do you need to extract capital from the business at the time of the transition? The higher the level of capital needed, the greater the pressure on the business and the equity stakeholders.
In many cases, the incoming generation will not have sufficient capital to buy-out the exiting generation. This will require the vendors to maintain a continuing investment in the business or for the business to take on an increased level of debt. Either scenario needs to be assessed for its sustainability at a business and shareholder level. In some scenarios the exiting owners will transition their ownership on an agreed timeframe.
Managing remuneration
In many small and medium businesses, the owners arrange their remuneration from the business to meet their needs rather than being reasonable compensation for the roles undertaken. This can result in the business either paying too much or too little. Under generational succession, there should be an increased level of formality around compensation. Compensation should be matched to roles, and where performance incentives exist, these should be clearly structured.
Who has operational management and control?
Transition of control is often a sensitive area. It is essential to establish and agree in advance how operating and management control will be maintained and transitioned. This is important not only for the generational stakeholders but also for the business. Often the exiting business owners have a firm view on how the business should be run. Uncertainty in the management and decision making of the business can lead to confusion or a vacuum – either will have an adverse impact. Tensions often arise because:
The incoming generation want freedom of decision making and the ability to put their imprint on the business.
- Without operating control, they feel that they have management in name only.
- The exiting generation believe that their experience is necessary to the business and entitles them to a continued say.
- A perception that capital investment should equate to ultimate operating control.
- An uncertainty by either or both generations about the extent of their ongoing roles.
Agreeing transition of control in advance, on an agreed timeframe, can significantly reduce tensions.
Transition timeframes and expectations
Generational succession is often a process rather than an event. The extended timeframe for the transition requires active management to ensure that there are mutual expectations and to avoid the process being derailed by frustration.
The established generation may have identified that they want to scale down their business involvement and bring on other family members to succeed them. This does not necessarily mean that they want to withdraw completely. An extended transition period is not uncommon and can often assist the business in managing the change. This can also work well in managing income and capital withdrawal requirements.
The need for greater formality and management structure
A danger for many SMEs is the blurring of the boundaries between the role of the Board, shareholders, and management. With generational succession, this can become even more pronounced. Formality in these structures is important, with clear definitions of the roles and clarification of the expectations. For example, who should be a director and what is their role?
For some, the role of the family is managed by a family constitution – an agreed set of rules. For others there will be an external advisory group that advises the family to ensure that the required independent expertise is brought to bear.
Successfully managing generational change is a process we can help you navigate. Talk to us about how we can help to structure an effective transition path.
What will the Australian community look like in 40 years? We look at the key takeaways from the Intergenerational Report.
The 2023 Intergenerational Report (IGR) is a crystal ball insight into what we can expect Australian society to look like in 40 years and the needs of the community as we grow and evolve. It doesn’t map out our path to flying cars and Jetsons style robotic domestic help (unfortunately) but it does forecast structural trends that will give many of us a level of anxiety about what we need to be doing now to successfully navigate the future.
The report links the continued growth and prosperity of Australia to five significant areas of influence:
We’re ageing
Thanks for the reminder. The number of people aged 65 and over will more than double and the number aged 85 and over will more than triple. We’re expected to live longer with the life expectancy of men increasing from 81.3 to 87 years and from 85.2 to 89.5 for women by 2062-63. And that’s a problem for the younger generation.
Who bears the burden of an ageing population?
Australia’s low birth rate, limited migration and increased longevity all have an impact. The old age percentage – the number of people aged 65 and over for every 100 people of traditional working age (15 to 64) in the population – will increase from 26.6% to 38.2%.
From a tax perspective, Australia’s reliance on personal tax means workers will bear an increasing proportion of the tax burden under current fiscal policy. In a recent interview, former Treasury boss Ken Henry labelled it an “intergenerational tragedy” with personal tax growing from 11.7% of GDP to 13.5% based on current policy. The report says that “only 12% of Australians aged 70 and over pay income tax and this age group now makes up 12.2% of the total population. This age group is expected to increase to 18.1% of the total population in 2062-63.” Wholesale tax reform will be required to prevent the growing tax burden on individuals dragging on the economy. With economic growth expected to slow to 2.2% from 3.1% over the next 40 years, the solution will not magically arise from corporate Australia. If it was not for our high rate of inflation you would think an increase to the GST was imminent.
Services and who pays
Demographic ageing alone is estimated to account for around 40% of the increase in Government spending over the next 40 years.
The outcome of an ageing population, as you would expect, is increased demand for care and support services that will push the Federal Budget back to a point where deficits are the norm if the current policies remain in place.
From a consumer perspective, it also means that the trend towards user-pays will only increase. As individuals, we need to ensure that we have the means to fund our old age because Government resources will be limited by increasing demand and this demand is funded by a deteriorating percentage of workers contributing to tax revenue.
It’s also likely that we will need to look at how we generate income. For some that might mean working longer, for others it is value adding – creating, buying and selling assets in some form, whether that is business, innovation, or through more traditional assets such as property or financial products.
Superannuation the size of a nation
Australia currently has the fourth largest pool of retirement assets in the world, with total superannuation balances projected to grow from 116% of GDP in 2022-23 to around 218% by 2062-63. Our superannuation system will be what underwrites retirement for most Australians. At present, around 70% of people over aged pension age receive some form of Government income support. Over time, and as our superannuation system matures, this percentage is expected to decline sharply as a percentage of GDP with Government support supplementing rather than providing for retirement (the first generation of workers with superannuation guarantee throughout their working life hit retirement age around 2058).
However, the IGR points out that, “the cost of superannuation concessions will increase, driven by earnings on the larger superannuation balances held by Australians.” The proposed tax on future earnings on super balances above $3m may not be the last.
You can expect the management of superannuation to be a priority for Government to ensure that retirement savings are maximised to reduce the reliance on Government support, and to ensure that this enormous pool is leveraged for the gain of not only members, but the nation.
Growth of services
Like most advanced economies, global competition has shifted Australia’s industrial base from the production of goods to services. Ninety percent of jobs are now in services.
With an ageing population, demand for health and care services is expected to soar. People aged 65 or older currently account for around 40% of total Australian health expenditure, despite being about 16% of the population. The IGR estimates that the
workforce required to support this sector will need to be twice the size of what it is now to meet demand by 2049-50.
The Government’s biggest spending pressures will be health, aged care, the NDIS, defence and interest payments on government debt. Of these, the NDIS is the fastest growing at 7% per year.
The role of technology
The speed of technological change is difficult to predict, and the IGR doesn’t attempt to make predictions. But what we do know is that technology has had a transformational impact on labour productivity (the value of output of goods and services produced per hour of work). Over the last 30 years, labour productivity has accounted for around 70% of the growth in Australia’s real gross national income. But, tempering this is a slowing of labour productivity growth since the mid-2000s.
We know technological disruption is coming and the debate about the role of artificial intelligence is only just beginning. We also know that unless technology is accessible, our future will be one polarised by those who have and have not benefited from technological change.
Climate change transformation
There are two key aspects to climate change; the cost of rising temperatures, and the opportunity created by the shift to renewable energy.
Temperatures are anticipated to increase by 1.5 degrees before 2100, potentially before 2040.
From 1960 to 2018, climate disasters reduced annual labour productivity in the year they occurred by about 0.5% in advanced economies. However, for severe climate disasters labour productivity is estimated to be around 7% lower after three years. With rising temperatures, floods, bushfires and other extreme weather events are expected to increase in frequency and severity. The impact of climate change spelt out in the report is sobering with disruptions and changing patterns impacting agriculture, tourism, recreation and industries that rely on labour intensive outdoor work.
On the positive side, Australia could benefit from new “green” industries, such as hydrogen and other clean energy exports, critical minerals and green metals. It is also likely to drive new, innovative ideas as businesses invest in and develop low emissions technologies, providing a source of future productivity growth in a more sustainable economy. Australia’s potential to generate renewable energy more cheaply than many countries could also reduce costs for both new and traditional sectors, relative to the costs faced by other countries.
Geopolitical risks
Australia relies on open international markets. Trade disputes and military conflicts pose an external threat to Australia’s economy and well being. While the IGR cannot predict the nature of geopolitical events, it notes the importance of investing in national security, presumably this includes cybersecurity, ensuring access to international markets, and deepening regional partnerships to reduce supply chain vulnerabilities.
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