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Chasing a tax deduction is a popular hobby for many people in Australia, but despite what many people will tell you, claiming a ‘tax deduction’ in itself won’t make you wealthy.

The  Australian Taxation Office  basically says that if you spend money on something to help you earn your income, you may be entitled to claim that cost as a deduction. In other words, whenever you spend money to make money, this is generally a tax deduction.

A tax deduction reduces the amount of income you have to pay tax on. However, as we all earn an income in different ways, what is allowed as a tax deduction for one person may not be allowed as a tax deduction for another person.

For example, if a lawyer buys a hammer he/she cannot claim it as a tax deduction but if a builder buys a hammer he/she can.

It is important to be aware that to claim a tax deduction you need to have spent money in the first place. Let’s say I work  in an office and purchase an Ipad for $600. If my marginal tax rate is 37% and I am using the Ipad for work, I can claim a tax deduction for 37% of the $600. In other words the Ipad has only actually cost me in real terms $378 ($600 less ($600 x 37%). Mind you if I don’t use the Ipad I have still wasted $378.

Your tax saving as a result of a deduction will vary depending upon what marginal tax bracket you are in. If your taxable income is less than $18,200 and you were a resident of Australia for the full year, you would not receive any benefit from your deductions because your income was below the taxable level. However if you earn over $180,000 any tax deduction will result in a 45% saving on that purchase and the more deductions you have the more tax you will save.

It is important to note that no one has ever become financially wealthy on tax deductions alone

Chasing a tax deduction for the sake of getting a tax deduction is a very dangerous approach. For example, you often hear people saying “I spent $100 on X so I could get a tax deduction”. Assume you spent $100, you have only really received a discount on the item as follows:

You Spent

Before tax

Your Marginal

Tax Rate

Net Cost

After Tax

$100

0%

$100

$100

15%

$85

$100

32.50%

$67.50

$100

37%

$63

$100

45%

$55

So in actual fact you have still spent money and if you have spent money on something that is useless, you have in fact wasted your money.

Don’t forget that the size of your tax deduction is directly related to your ability to keep accurate records of all of your potential deductions. Many Australians fail to include all of their available tax deductions and as a consequence pay too much tax and not make the savings they hoped for.

professional post from Charles Badenach – Contact Charles directly for more assistance

photo credit: Phillip via photopin cc

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