In part one (left) of our focus on tax, we looked at tax deductions for home-based businesses. In part two, we examine how starting a home-based business while working a salaried job can affect how much tax a business owner is required to pay. Simone Gielis, General Manager of online tax agent service Etax Accountants, explains how to set aside sufficient money to cover your annual tax bill.
Many online businesses are started in garages and spare rooms, initially operating as a part-time or “hobby” venture until they gain enough traction to become a full-time job. This is a great way to test the e-commerce waters, while also earning a regular income. However, it can have a surprising impact on what a business owner owes the taxman, particularly in the business’s first year of operation.
“We meet a lot of new clients who started a home business while also working a regular job. Sometimes they face an unexpected tax bill at the end of the year, especially if they have not sought tax advice early on,” says Simone Gielis, General Manager of online tax agent service Etax Accountants, which runs etax.com.au.
Gielis explains that in the first year of operating an online business on the side, if the business owner earns an income from the business, they wouldn’t usually be set up to pay quarterly tax instalments through the year. This means that at the end of the year, their total income year-end has been boosted, while the tax that has been deducted (from their salary) is not.
“The result? You have tax owing after the ATO [Australian Taxation Office] calculates the tax on your total income from all sources,” says Gielis.
“To avoid this nasty surprise, it is important to set aside some income received from the business, as a future tax payment. Some people prefer to have their employer deduct extra tax each week from their salaried income, but often they fail to take out enough through the year to avoid a tax bill.”
If you’re not sure how much you’ll need to put aside or if you are confused about the ATO tax rate that will apply to you, talk to a tax agent – and soon!”
Simone Gielis, General Manager of Etax Accountants
How to make provisions for a tax bill
Part-time business owners should plan to put aside the correct amount of money each month to cover taxes. Once your tax agent has claimed all of the business’s deductible expenses, there should still be some money left over.
“Best to save generously rather than face a big tax bill,” suggests Gielis. “The ATO charges interest on taxes owing and they are not forgiving about lingering debts. If you’re not sure how much you’ll need to put aside or if you are confused about the ATO tax rate that will apply to you, talk to a tax agent – and soon!”
The good news is that this issue usually only affects part-time businesses in their first year of operation, because once the ATO is aware that someone is earning additional taxable income, they will start to request quarterly tax instalments.
The habit of saving money every month to cover the end-of-financial-year tax bill is still, however, advisable. “You’ll need to be able to pay those quarterly ATO tax bills promptly,” points out Gielis. “Overdue taxes are an additional stress that no business owner needs.”
Example: Jiji’s salaried job and her part-time online business
It can be easy to incorrectly estimate how much tax a new part-time online business can owe the Australian Taxation Office.
Let’s look at an example of imaginary online business Jiji’s Jewellery, which Jiji runs after work and at weekends.
Jiji earned $80,000 from her salary and had about $18,747 withheld as tax, because her income is taxed by the ATO at about 23.4 per cent.
Jiji also earned $40,000 from Jiji’s Jewellery. If she paid no tax during the year on that income, then she would owe tax to the ATO. But how much should she put aside to cover her taxes?
If Jiji uses the tax rate that was applied to her salary, calculating 23.4 per cent of her business income, she’ll put aside $9,360. But she will still face a nasty surprise, because she will actually owe more than $6,000 in additional tax.
The reason is that the ATO’s percentage tax rate increases as Jiji’s income grows. This means her total income – combining salary with online income – was $120,000, and the tax on this amount is $34,147.
$34,147 minus $18,747 equals $15,400 in tax that’s not covered by Jiji’s salary tax withholding. That’s 38.5 per cent of Jiji’s $40,000 business income that she’ll need to set aside to avoid a tax bill.
After the first year of running her part-time business, Jiji would likely owe tax to the ATO on her online business on a quarterly basis. This means she would pay tax every quarter, instead of having to deal with an annual tax bill.