ATO watchlist for small business breaches

Pandemic-era leniency is a thing of the past and the regulator is warning small and medium enterprises (SMEs) it is keeping an eye on them.

Information is now published quarterly on the ATO’s SME focus areas webpage. The focus areas currently include – deductions and concessions, personal use of business income, operating outside the system and poor reporting habits.ⁱ

Business not personal income

Incorrect use of business money and assets is a perennial issue for the ATO, but it is reporting an increased use of business money and assets for personal purposes.

The ATO says the main area where SMEs are making errors relates to the integrity rules in Division 7A of the Income Tax Assessment Act. These rules apply when a private company attempts to provide money or other benefits to its shareholders or their associates tax-free.ⁱⁱ

According to the ATO, common errors in this area are caused by shareholders (both owners and associates) failing to understand the company is a separate legal entity and its money and assets do not belong to them and cannot be used for private purposes.

Failing to meet Division 7A requirements when making, repaying or managing loans to shareholders and associates is also attracting the ATO’s attention.

A private company making these types of loans must meet a number of requirements, including – entering into a complying loan agreement, charging interest at the benchmark interest rate, declaring the interest in the shareholders’ assessable income, and making repayments by 30 June (see Case Study).ⁱⁱⁱ

Incorrect deductions and concessions

The ATO has also turned the spotlight onto those who incorrectly claim and offset business losses against other income sources.

Some taxpayers are claiming losses from a business activity (as either a sole trader or an individual in a partnership) where the activity is not related to their primary source of income.

Non-commercial business losses (NCL) cannot be offset against assessable income earnt from other activities in the year in which the losses are made.^iv

Other common NCL errors are offsetting losses from hobby or other non-business-like activities, failing the income requirement, failing the four eligibility tests and incorrectly offsetting the income, and failing to apply for ATO Commissioner discretion.

Operating outside the tax system

Although taxi, limousine and ride-sourcing services have been on the ATO’s hitlist for some time, there is a continuing focus on businesses operating outside the tax system.

Operators in this area must register for GST regardless of their annual turnover and ensure they collect and pay GST and income tax on all rides and other business income.

The ATO is using a range of data sources to check that all drivers register for a Tax File Number (TFN), Australian Business Number (ABN) and the Goods and Services Tax (GST).

Drivers choosing not to register or comply with GST and income tax obligations may find the ATO itself registers them for GST and backdates their registration. This is likely to result in financial penalties and interest charges, together with the requirement to complete an online course.

Contractor income and TPRS

The ATO is also checking on contractors who incorrectly report or omit contractor income.^v

The taxable payments reporting system (TPRS) now covers building and construction, courier, cleaning, IT, road freight and security services. These businesses must now lodge a taxable payments annual report covering contractor payments.^vi

Failing to include TPRS income can result in an ATO review and audit, with the potential for financial penalties and interest to be imposed.

Building good habits

The final area of current focus is changing small business GST reporting from quarterly to monthly.

From March 2025, those with a history of failing to comply with their reporting obligations will receive written communications from the ATO notifying them their reporting cycle has changed to monthly.

Targets of this action will be businesses who failed to respond to previous ATO communications and who have demonstrated a poor compliance history (such as paying late or the incorrect amount, failing to lodge or lodging late, and reporting their tax obligations incorrectly).

The shorter monthly reporting cycle change is designed to embed good business habits into the targeted business by better aligning reporting with their reconciliation process. According to the ATO, some SMEs have voluntarily moved to monthly GST reporting to improve cash flow management and keep their recordkeeping accurate.^vii

Please give us a call if you are concerned about any of these issues so that we can help you decide on the best course of action.

Case study: Logan the carpenter

Logan is the sole director and shareholder of a private company.

He uses the company credit card to pay $20,000 towards his children’s school fees and $15,000 for a family holiday.

Logan reasons that he will repay these amounts to the company when the company needs the money. He does not repay the money to the company or convert the payments into complying loans before the company’s lodgment day. Due to this, the payments are deemed Division 7A dividends.

Logan must declare both payments as unfranked dividends in his individual tax return and is required to pay tax on the unfranked dividends at his marginal tax rate. He will not get a credit for the tax the company has paid on those profits.

Logan lodges his individual tax return. In addition to the pre-fill income information, Logan also declares $35,000 of unfranked dividends. Logan later receives his notice of assessment, which shows he has a tax bill for the relevant income year.

Source: ATO

i Small business focus areas | Australian Taxation Office

ii Private company benefits – Division 7A dividends | Australian Taxation Office

iii Loans by private companies | Australian Taxation Office

iv What is a non-commercial loss? | Australian Taxation Office

v Contractors omitting income | Australian Taxation Office

vi Taxable payments annual report (TPAR) | Australian Taxation Office

vii Good business habits | Australian Taxation Office

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