I started a small hairdressing business a couple of years ago and the business made losses in prior years. Am I correct to think I may be able to use these losses to reduce tax in the future?
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Yes, this is correct.
Taxpayers are not always in a positive tax position and may sometimes make a tax loss instead of taxable income for an income year.
As a general rule, you can carry forward these tax losses into following income years and claim a deduction for these amounts.
In simple terms, this means that a tax loss made in one year can reduce taxable income in future years.
Generally, you will have made a tax loss for an income year if your deductions excluding any tax losses from earlier income years is greater than your assessable income for the income year.
For example, if your business has assessable income of $100,000 and deductions of $150,000 then you have made a $50,000 tax loss.
However, the amount you can claim as a tax loss is limited as certain deductions are prevented from contributing to your tax loss. This includes deductions such as donations, pension, gifts and personal superannuation contributions.
The ways in which a tax loss may be deducted in a following income year differ depending on the nature of the entity claiming the loss.
If you are not a corporate entity (for example, an individual, sole trader or in a partnership), you must deduct your tax loss in the first following year against your assessable income.
Any remaining tax loss is carried forward into the following income year.
If you are a corporate entity (e.g. company), you may choose the amount of a tax loss to deduct subject to certain rules around excess franking offsets.
Generally, any tax losses of a corporate entity are allowed to be carried forward provided you satisfy either the "continuity of ownership test" or "business continuity test".
Simply, these tests ask if the company has the same owners and if the company is carrying on the same business.
Importantly, with the COVID-19 pandemic affecting many Australian businesses, the government has announced a temporary "loss carry back" regime.
Here, eligble corporate entities that previously had an income tax payable and have now made a tax loss can claim a refundable tax offset up to the amount of their previous income tax payable.
If you are uncertain about the application of the carry-forward tax loss rules and the temporary carry-back tax loss rules to your business, seek advice from your tax adviser.
Or, contact the Findex Albury team by emailing albury@findex.com.au
