Loss Carry-Back

The recently introduced loss carry-back regime allows businesses that are currently in a tax loss position but which have paid tax in recent income years to obtain an indirect ‘refund’ of the tax which they have paid.

Under the scheme, businesses which report tax losses in the 2019-20, 2020-21 or 2021-22 income years can elect to ‘carry back’ those losses against taxable profits which have been reported in previous periods. Those business which do so will be entitled to a refundable tax offset which essentially converts their carried back losses into cash payments. 

Introduced alongside the Government’s Covid-19 stimulus measures, the loss carry back regime is aimed squarely at returning cash to Australian businesses, to either support cashflow where there has been past tax leakages, or to encourage and stimulate business spending to improve the economy.

Given the considerable benefits on offer, entities should strongly consider whether making a choice to use the scheme will be a benefit for them in view of both current and future business strategies and plans.

Who is eligible?

In order to access the loss carry back scheme, an entity is required to:

• Be a corporate tax entity;
• Carry on a business;
• Have aggregated turnover of less than $5bn; and
• Be up to date with its tax return lodgement obligations.

Corporate Tax Entity

An entity will be considered a corporate tax entity for the purposes of this scheme if it is a company, a corporate limited partnership or a public trading trust.

Unfortunately, this excludes many smaller businesses from accessing the benefit of this scheme, where they operate via sole traders, partnerships or trusts.

Turnover and Business Requirements

To meet these requirements, the entity is required to have carried on a business during the year in which it seeks to utilise the scheme and have aggregated turnover of less than $5bn in either:

• The year in which it seeks to utilise the scheme; or
• The prior year, assuming it carried on a business in that year.

 Tax Return Obligations

An entity will only be entitled to use the scheme if it has lodged, or is not required to lodge, an income tax return for the year in which it wishes to use the scheme and the preceding 5 income years.

In what years can the losses be carried back?

The loss carry back measures are temporary and cash refunds can only be obtained upon lodgement of the companies 2020-21 and 2021-22 tax returns.

The company may only use losses incurred in the 2019-20, 2020-21 or 2021-22 income years to offset profits generated during the 2018-19, 2019-20 or 2020-21 income year.

It is important to be aware that although losses from the 2020 year are eligible to be carried back, a company will only be able to benefit from this scheme following lodgement of their 2021 tax return.

In some instances, companies may be able to use losses incurred in more than one of the income years listed above.

How are the refunds calculated?             

The loss carry back rules do not entitle eligible companies to a direct refund of tax paid in previous income years. Instead, the measures provide the company with a refundable ‘loss carry back tax offset’ in their 2020-21 and/or 2021-22 tax returns.

While the offset acts as a proxy for the tax previously paid by the company, there are likely to be variances between the amount of tax previously paid and the amount of cash refunded to the company. These variances arise principally because of:

• Changes in the applicable corporate tax rate; or
• An insufficiency of franking credits in the company’s franking account.

Calculating the amount of the loss carry back tax offset

The loss carry back tax offset available to an entity for an income year is calculated by:

1. Determining the amount of the tax loss that the entity has incurred during that year and wishes to carry back to an earlier, profitable income year;
2. Subtracting any net exempt income that was derived in that earlier income year; and
3. Multiplying the result by the corporate tax rate applicable to the entity during the year in which the caried back loss was incurred.

Where an entity wishes to carry back losses incurred in two or more income years to the same profitable income year, the above process is repeated for each year, with the step 3 amounts added together.

Critically, the amount of the offset available to the entity is limited by the balance of the entity’s franking account at the end of the income year.

The following example demonstrates how the loss carry back rules operate in practice:

In the 2018-19 income year, Company A had taxable income of $5 million on revenues of $55 million. The company paid income tax of $1.5 million at the full corporate tax rate of 30%.

Due to the impact of Coronavirus restrictions on customer demand and its ability to trade, Company A made a tax loss of $2 million in the 2020-21 income year. As Company A had turnover of less than $50m during the 2020-21 income year it was subject to the reduced corporate tax rate of 26%. The company had total franking credits of $1.5 million as at 30 June 2021.

Company A makes an election to apply the loss carry back rules in its 2020-21 income tax return.

Assuming that  Company A derived no exempt income in the 2018-19 income year, the company is entitled to a refundable loss carry back tax offset of $520,000 (being the product of its corporate tax rate in the 2020-21 income year, 26%,  and the carried back losses of $2 million).

If Company A had total franking credits of only $510,000 as at 30 June 2021 then the value of the refundable loss carry back tax offset would be equal to $510,000.

The amount of the refundable tax offset is paid to Company A by the ATO following lodgement of the company’s 2021 tax return.

Are there any other restrictions?

It is important to note that the loss carry back scheme only applies to tax losses and that capital losses are not included. Further, the scheme does not apply to losses that are transferred by a joining entity to the head company of a tax consolidated group, nor tax losses that have been generated by the conversion of excess franking credits to a loss.

Specific integrity measures included in the legislation prevent an entity from receiving a carry back tax offset if a scheme has been entered into under which the entity experiences a change of control, another entity receives a financial benefit and there is a more than incidental purpose of enabling the entity to get a loss carry back tax offset.

In addition, the general anti-avoidance rules may apply to cancel any unscrupulously obtained tax benefit associated with the loss carry back tax offset.

What should I do now?

Entities that have paid or will pay income tax in the 2018-19, 2019-20 or 2020-21 income years but which have found or will find themselves in tax loss positions in later years should consider the benefits of using this scheme to assist in business cashflow management.

This will require consideration not just of past taxes paid, but also require thought to be given to:

• Ability to satisfy loss tests;
• Expected profitability in future years and future impact of cashing in losses sooner than later;
• Any capital acquisitions of depreciable plant and equipment which may benefit from immediate and accelerated depreciation measures; and
• Impact on franking accounts, in light of dividend strategies.

The loss carry back scheme will be a critical element of planning for taxes, cashflow and budgeting for the upcoming end of financial year, as to whether a company wishes to make the choice to use the scheme or not.

Where we can assist you

If you would like to understand in further detail what these measures mean for your business please contact our Leaders in Corporate Tax, Marissa Bechta and Rachel Pritchard on 08 6311 6900.

This newsletter is current as of 16 April 2021, however, please note that announcements and changes are being made by the Government and the ATO regularly, and we expect that the tax and business-related responses will continue to evolve.  Before acting upon the content of this newsletter, please contact us to discuss how the above applies to your specific circumstances.

This information is general advice only and neither purports, nor is intended to be advice on any particular matter.
No responsibility can be accepted for those who act on the contents of this publication without first contacting us and obtaining specific advice.
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