How Income Tax is Calculated
Australia has a marginal income tax rate system for individuals. The system has five income brackets. Put simply, the more you earn each financial year, the higher percentage of tax you pay on your earnings. Below are the current marginal tax rates for each bracket.
|Taxable Income||Tax Payable|
|$18,201 – $37,000||19 cents for each dollar over $18,200|
|$37,001 – $90,000||$3,572 plus 32.5 cents for each dollar over $37,000|
|$90,001 – $180,000||$20,797 plus 37 cents for each dollar over $90,000|
|Over $180,000||$54,097 plus 45 cents for each dollar over $180,000|
Note that if you’re earning over $180,000, nearly half of every dollar you earn over $180,000 is being taxed!
In addition, most taxpayers generally have to pay a Medicare levy of 2% of their taxable income, unless you earn less than $27,997.
The table below shows how much tax you pay at a range of different salary levels in the top two marginal brackets. It also shows the Medicare Levy that you pay in addition to your tax.
|Taxable Income||Tax Payable||Medicare Levy|
What is included in your taxable income?
Your taxable income is your assessable income minus your tax-deductible expenses. Your assessable income includes all of the following:
- salary and wages
- any business, partnership or trust income that you receive
- any tips, gratuities or other payments that you receive for providing your services
- any allowances you receive (for example, car, clothing, travel and laundry allowances)
- bank interest
- investment income (for example, share dividends)
- bonuses or overtime payments
- any sales commissions you receive
- any government benefits you receive
- any rental income you receive from an investment property.
How to reduce your taxable income
But no matter what level income you earn, it’s important to look for ways to reduce the amount of tax you pay. Ways to do that include:
- maximising your tax-deductible expenses and your tax offsets (which are also known as tax rebates).
- salary sacrificing into superannuation.
- looking for tax-effective investment opportunities, like negative gearing.
We’ll now look at each of these strategies in turn.
Maximise your tax-deductible expenses and your tax offsets
Tax-deductible expenses could include:
- work-related car, travel, uniform, protective clothing or self-education expenses
- other work-related expenses such as home phone/internet expenses if you work from home
- income protection insurance
- the cost of memberships of professional associations
- union fees
- interest and dividend deductions
- gifts or donations to charities
- tax agent fees
- making additional after-tax superannuation contributions.
Any tax payable on your income is reduced by any tax offsets you can claim. They can include:
- the private health insurance rebate
- the low and middle-income tax offset (if your taxable income is below $126,000)
- franking credit on Australian share dividends
- the seniors and pensioners’ tax offset
- the superannuation income stream tax offset
- superannuation contributions made on behalf of a low income-earning spouse.
It’s important to understand that tax offsets don’t reduce your taxable income. They are offset again the amount of tax you need to pay after your taxable income has been assessed. If your tax offsets exceed the amount of tax you need to pay, you generally won’t get a tax refund like you will if your tax-deductible expenses have resulted in you paying more tax than you needed to during the financial year.
Increase your superannuation contributions
Pre-tax superannuation contributions in Australia are taxed at the concessional rate of just 15%. That’s well below even the lowest marginal rate. You can, therefore, save tax by making contributions to super out of your pre-tax salary. You can do this by salary sacrificing. In other words, arranging with your employer to pay part of your salary into your super fund.
It’s important to understand that salary sacrifice payments into super are classed as concessional contributions, along with compulsory employer super guarantee payments. You can make up to $25,000 worth of concessional contributions into your super fund each year.
Use negative gearing as an investment strategy
Negative gearing is an investment strategy where the expenses associated with an investment strategy exceed the rental income that it generates. Although you have to include the rental income from the investment property in your assessable income, you’ll be able to claim all of the expenses to reduce your overall taxable income. This is best explained using an example.
Negative gearing example
Imagine that your assessable income is $110,000 and that it includes investment property income of $10,000. Also, imagine that the expenses associated with the property during the current financial year are $15,000. These are tax-deductible expenses. Your taxable income will be $95,000 (i.e. $110,000 minus $15,000). Instead of paying tax on $110,000 (which would be a total tax bill of $24,497), you’ll only pay tax on $95,000 (which would be a tax bill of $22,647, a decrease of $1,850).
Although you’ll still be out of pocket overall in terms of your investment property expenses, a well-chosen investment property can increase in value over time to more than offset those expenses. Property prices in Australia have a long-term growth trend, even if there are times when market prices stagnate or decrease in the short term.
How we can help
At Qi Wealth, our team of Certified Practising Accountants (CPAs) can help you to legally maximise your tax deductions and offsets. It’s important to understand that tax minimisation is legal, tax avoidance is not (and it results in heavy penalties) from the Australian Taxation Office.
We can also advise you on a range of tax-effective investment strategies. We’ll take the time to understand your individual circumstances so that we can provide you with the best advice. We develop long-term, trusted relationships with our clients.
Contact us today to find out how we can help you!