When ATO minds your own business

Good old-fashioned honesty will help avoid a visit from the tax man, writes Christopher Niesche.

No one wants to attract the attention of the Australian Tax Office unnecessarily - even honest taxpayers can get nervous if the ATO is poking around in their affairs.

Tax experts say there are particular transactions and strategies the ATO pays particularly close attention to, so small to medium enterprises need to make sure they get them right.

Scott Harrington, a director of professional services firm William Buck, says the better your tax-paying history - honest, on time - the more lenient the ATO is likely to be on anything that goes wrong.

And he says if the Tax Office does come to you with a question, "don't try to fob them off with an answer that isn't necessarily correct".

"If you haven't done anything wrong and you answer clearly, the Tax Office will quite often stop their questions at that point, as opposed to escalating it," he says.

Here are seven red flags for the tax man that your small business should try to avoid.

Business sales

The sales activity of a small business can attract a range of capital gains tax concessions, but strict qualification rules apply. The ATO examines these transactions closely. "There are a lot of cases each year where the tax man takes people to court arguing that they don't meet the small business definition," Harrington says. "If you've got those in your tax return, make sure you've taken some care to get the calculations right and make sure you genuinely qualify."

Loans to shareholders

Harrington says this is one of the biggest red flags. Companies have to follow very specific rules and obligations if they lend money to a shareholder. The ATO wants to stop business owners avoiding tax by "borrowing" money from their company, so will want proof that any loan is genuine, with a loan document and regular interest and principle payments. Otherwise they will treat the loan as a dividend and collect tax on it.

Cash transactions

The ATO says that for 2012-13 it will focus on unreported cash transactions in small businesses with a turnover of less than $2 million. One strategy the ATO has is to match a business' tax return against industry benchmarks, as well as cross-checking records, such as the amount of raw materials a business purchased. It will pay particular attention to cafes and plasterers.

Fuel tax credits

Many businesses are entitled to credits for fuel tax for machinery and heavy vehicles, but the ATO says "incorrect or ineligible fuel tax credit claims continue to be made as a result of taxpayers misunderstanding their entitlements or poor record keeping". Serious breaches will result in prosecution.

Late payments

The ATO will take notice if a taxpayer lodges several late company returns or several late business activity statements all at the same time, says Richard Stewart, principal advisor at legal and tax advisory firm Avenue Solutions. "If you lodge them all at the same time, you can expect that they're probably going to be a little more closely vetted than if you were lodging returns on time," he says.

Also, businesses need to ensure the annual total of the BAS returns matches the annual sale number on the tax return. "Obviously, if there's a discrepancy in those numbers, that indicates a problem," Stewart says. "Any discrepancies should be explored before you lodge."

Home office expenses

Getting a tax deduction for part of the home phone and power is an attractive idea, but claims for home office expenses will also catch the eye of the ATO. "There are pretty strict rules around home offices and the deductions you can claim for them," Stewart says.

"There are different rules that apply when you actually carry on your business from home, such that your home is your principal place of business, versus the situation whereby you merely use your home for convenience and do some work from home."

For the second category, taxpayers need to substantiate their claim by keeping a diary for a month of the work they do at home to demonstrate their work patterns.

Business and personal bank accounts

Many small business owners have a single bank account for personal and business use; this is a red flag to the ATO and should be avoided, Stewart says. He says people should ensure they separate business and personal expenses clearly.