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Who has to prove they have passed the test?
A person who is an attributable taxpayer for a CFC and who claims that the CFC has passed the active income test may be asked to prove that the CFC has passed the test.
How do you prove that you meet the requirements?
If you wish to claim a tax exemption on the basis that a CFC has passed the active income test (see chapter 1) you must:
- ensure that the company has kept accounts for the statutory accounting period; these accounts must
- be prepared in accordance with commercially accepted accounting principles
- give a true and fair view of the financial position of the company
- ensure that the CFC will assist by providing accounting and other information which the ATO may ask you to supply.
Commissioner’s notice to an attributable taxpayer
If you prepared a tax return claiming the active income test exemption, the ATO may give you a Commissioner’s notice asking you to prove that the test has been passed. In this notice, the Commissioner will ask you to get copies of accounts and other documents from the CFC.
If the documents are not in English, you will have to translate them and give the documents and translations to the ATO within the allotted time.
The ATO will allow you a minimum of 90 days to produce these documents. If you want extra time, you must apply in writing to the ATO before the time runs out. The ATO may agree to extend the time allowed.
Extra time will be granted if the ATO has not answered your request before the time allowed runs out.
Taxpayer’s notice to a CFC
To get the documents from the CFC, you may send the CFC a written request, called a ‘taxpayer’s notice’.
General accounting records
So that you can get the documents that the ATO may ask for, the ATO requires the company to keep general accounting records. These may be kept either in Australia or elsewhere.
These records include:
- orders for the payment of money
- bills of exchange
- promissory notes
- other documents of prime entry.
The records would also include any working papers and other documents necessary to explain how the accounts are made up.
General accounting records should also correctly record and explain the matters, transactions, acts and operations that are relevant to the preparation of the CFC’s recognised accounts for the statutory accounting period. These records must be available if the ATO needs to check the matters and figures in the accounts.
Recognised accounts are accounts kept for the statutory accounting period that are:
- prepared in accordance with commercially accepted accounting principles, and
- give a true and fair view of the financial position of the company.
These accounts include:
- profit and loss accounts
- balance sheets
- other financial statements
- reports and notes attached to, or intended to be read with, the accounts.
The company must keep both the recognised accounts and the general accounting records for five years, starting from the end of the company’s statutory accounting period.
If you ask the CFC for copies of documents included in or drawn from the recognised accounts and general accounting records, the CFC must give them to you; but you must allow the CFC at least 60 days to comply.
In your taxpayer’s notice to the CFC, you may ask the CFC for any or all of the following:
- copies of the recognised accounts of the company for the statutory accounting period
- copies of the general accounting records of the company for the statutory accounting period
- copies of a document showing how the tainted income ratio of the company was worked out for the statutory accounting period; this document will summarise information drawn from the recognised accounts and general accounts to work out the tainted income ratio.
CFC’s notice to its partnership
If the CFC is a partner in a partnership, the CFC may ask the partnership for information it needs to answer the taxpayer’s notice. The CFC’s notice must allow the partnership at least 30 days to comply.
Minimum time for notice to produce documents
minimum 90 days notice
What will happen if you don’t fully meet the substantiation requirements of the active income test?
If you refuse or fail to comply with the Commissioner’s notice, you have not committed an offence; you will not be prosecuted if the CFC or a partnership involving a CFC does not keep the records listed above.
However, if you fail to meet the substantiation requirements because you have not produced the documents requested, the CFC will be treated as if it has failed the active income test. As a result, the ATO may amend your tax assessment to include attributable income. You may also have to pay the shortfall interest charge and a penalty in respect of the tax that would have been paid if you had treated the active income test as applying to you.