Are your Investment returns treated as Revenue or Capital?
Posted on 27th November 2018 by Christabelle Harris
The distinction between accounting for investment returns as revenue or capital is not always clear and the characterisation of a receipt will ultimately be subject to the circumstances that apply to the taxpayer.
Generally speaking, an income receipt is regarded as an amount that is regular, recurring and has income tax applied to the net amount of income. The main example of this would be a dividend received from a shareholding.
However, what may appear to be a capital gain for example may in fact be classified more correctly as income where the taxpayer has been undertaking a profit-making operation. The relevant factors to consider whether a gain is to be treated as revenue or capital are the intention of the taxpayer when the asset is acquired, and any subsequent change of intention, as well as the length of the time the asset was owned. Importantly, where the amount is a capital return, the investor may have access to the CGT discount provisions which may end up being better tax result than would if the amount received were to be treated as assessable income.
Likewise, the treatment of an outgoing expense is important to determine whether an immediate deduction is allowable or whether the outgoing forms part of the cost base of a CGT asset.
Points to be consider when deciding whether an outgoing expense should be treated as revenue or capital:
- the advantage sought by the taxpayer
- the character of the advantage sought by the outgoing and,
- how the advantage comes about (recurrent or one-off payments).
Generally speaking, investors will fall into one of two categories – traders or long-term investors.
Investors on revenue account:
Where the holder of an investment product carries on activities for the purpose of earning income from buying and selling investments, that holder will be in the business of trading. Generally, a trader:
- holds investment products as trading stock
- includes gross receipts from the sale of investment products as income
- recognises expenses incurred in relation to trading activities as allowable deductions, and
- includes in assessable income investment returns such as interest, dividends and distributions.
Note that where the holder of an investment product enters into an isolated transaction with a profit making intention, they will not be in the business of trading. However, any net profit from the transaction will be assessable on revenue account.
Investors on capital account:
Where the investment is held with the intention of earning regular income from those investments, the investor may be seen as generally not carrying on a business. This type of investor generally:
- does not include gross receipts from the sale of investments as income. Any net gain is assessable under the capital gains tax provisions
- cannot include capital losses from the sale of investments against income from any other sources except current or future capital gains (quarantining these losses)
- cannot include expenses incurred in relation to buying and selling investments as a deduction when incurred. These are taken into account in determining the amount of any capital gain or loss instead, and
- includes investment returns such as interest, dividends and distributions in assessable income.
The above information is very general in nature and the nuances of each taxpayer’s situation needs to be fully considered before either method is applied for tax purposes, so if you think any the above applies to you please contact us.