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Business loan expenses to claim at tax time

If you’re a small business owner who has taken out a business loan in the past 12 months, you may be able to claim a tax deduction for expenses.

Business loans tax deductions

Almost one in three small business owners intend to access external funding to support revenue growth and business needs.* Heading into EOFY it’s important to understand tax treatment of business loans, possible deductions available, reporting and compliance requirements, and common mistakes businesses make at tax time – plus an expert’s advice to help avoid them.

At a glance

Here’s a snapshot of the advice from our interviewee:

  • Borrowing funds for business purposes? Claim a tax deduction on the interest and costs associated with that loan.
  • Don’t embellish deductions.
  • Ensure compliance by maintaining quality records and accurately documenting business activities.

The end of the financial year is the time to make sure that you’re paying the tax you should – and make the most of the deductions you are eligible for.

If you’re a small business owner with a business loan, that loan could have implications for you at tax time – here’s how.

What the ATO says about tax governance

Your first stop on the road to better understanding tax obligations at EOFY should be the Australian Taxation Office (ATO) website, which outlines the overarching tax requirements for businesses in terms of loans and debts.

Some of the ATO’s major points of advice on tax governance for small businesses include:

  • Ensuring all loans are properly executed and legally binding, including any variations.
  • Ensure that the terms of the loan meet any tax law requirements that may apply.
  • Ensure appropriate accounting for the loan account, including evidence of repayments made.
  • Ensure all gifts are properly recorded and evidence of the gifting is kept.

Putting these principles into practice can be challenging though, especially if you’re a small business just starting out.

We spoke with a tax specialist to find out how small business owners can get up to speed on the impact of business debt on tax repayments, and how to maximise deductions.

How business loan debt affects tax

“As your business grows and expands, you will face choices as to how that growth is financed,” says Mark Chapman, Director of Tax Communications at H&R Block. “In most cases, it will be necessary to look to external finance in order to secure the funds your business needs to grow.

“If you borrow money to finance the growth of your business, interest paid on that finance will generally be tax deductible, provided all the borrowed funds are used for business purposes. You’ll need to apportion the interest if some of the finance is used for private or domestic purposes.”

Although the interest element of a loan is tax deductible, Mark says the repayment of the principal – or the sum amount borrowed – is not.

“Costs incurred in arranging a borrowing are also deductible by the business, as are costs incurred in discharging a loan, such as loan procurement fees, legal costs and stamp duty.”

Mark stressed how it is critical to ensure compliance with tax-related regulations.

“You need to be able to substantiate any expenses incurred in arranging and maintaining a loan,” he says, suggesting that the majority of the proof will be in the form of paperwork provided by the lender or by solicitors, which ought to detail all costs.

“Particularly important is the loan agreement, which should state the amount borrowed, the loan term, the interest rate and hopefully what the loan is for,” Mark says. “You need to be able to demonstrate the borrowings are actually incurred for work or business related purposes, not personal expenses.”

3 common mistakes to avoid

Mark sees small businesses make three key mistakes at tax time.

1: Not claiming all deductions.

“Your business is entitled to claim a deduction for any expense which it incurs in earning its income,” he says. “So, if your business has incurred a business-related expense and you have the paperwork to prove it, don’t hesitate to claim it.”

2: Don’t embellish deductions.

“Only claim for costs that your business can prove have been spent,” Mark advises. “The ATO’s computer system compares claims to those of other businesses like yours, and if your business claims ring alarm bells, the ATO may seek an explanation.”

The consequences of tax missteps are easily, and best, avoided.

“If your deduction claims are found to be incorrect, you will be required to repay the tax avoided, plus pay interest,” Mark says.

3: Thinking that tax planning is for tax-time.

“Failing to set money aside to pay tax is one of the most common pitfalls that new businesses fall into. Miss out on your tax payments and you can quickly fall into debt with the ATO.”

Mark’s top three tax tips for small businesses

  • Keep quality records: “Under tax law, you must keep records to document and explain your business transactions, including records relating to income tax, GST, payments to employees and business payments. You can keep records on paper or electronically.”
  • Use a bookkeeping system: “An effective method of recording all your financial transactions will not only assist you in reducing administration time but will also assist you in the analysis of your business activities, lodging and paying tax, meeting your reporting requirements, seeking finance, and attracting potential investors.”
  • Speak to a tax professional: “A tax agent can identify exactly what your business needs to do to get into shape for tax season and maximise your deductions.”

*YouGov x Prospa small business research, 2022

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