Taxpayers with two more income sources in a given financial year (simultaneously, or at separate times) need to beware of a possible tax trap caused by the tax-free threshold.
The problem can occur even if the taxpayer and the employers are doing everything right and in accordance with the Australian Taxation Office (ATO) PAYG tax scales. The problem arises because the first job attracts the tax-free threshold while the second, and subsequent jobs, are taxed in accordance with the ‘second job’ tax rate and progressive tax tables provided by the ATO. It can result in taxpayers being, in effect, under-taxed on their ordinary earnings which can result in a tax bill or a reduced tax refund at the end of the financial year.
This article outlines how the tax trap arises and what you can do to avoid it this financial year.
CASE STUDY 1
By way of example, let’s assume a taxpayer, John, has one job for the entire financial year and earns a wage of $60,000. John’s employer would be correct to withhold tax of $12,247 (including the Medicare Levy). Assuming that John does not have any other income such as bank interest etc, then this is enough tax to ensure that he does not have a tax bill. If John has some tax deductible expenses to include in his tax return, he will actually receive a tax refund.
CASE STUDY 2
Now, let’s assume that John worked two jobs at the same time in that year. Each job paid a wage of $30,000. John decides to treat one job as his first job and therefore his employer withholds $2,842 of tax. The other job is treated as John’s ‘second job’. John informs his employer of this, correctly fills out a Tax File Number Declaration form by ticking the box that instructs his employer to NOT claim the tax free threshold. This means John’s second employer taxes him at ‘second job’ tax rates. The tax withheld on John’s second job is therefore $8,164.
Even though both of John’s employers have withheld the correct amount of tax on each wage, the total tax withheld ($2842 + $8164 = $11,006) is not quite enough tax to cover a combined taxable income of $60,000 for the year! When John prepares his tax return for the financial year, he will discover that he has a tax bill of around $1,159.
CASE STUDY 3
Let’s say that John still worked two jobs for the financial year, but not at the same time. John works at one job, decides to quit, and then finds a job with a new employer. At the time John quit his first job during the financial year, he had earned $30,000 and had been taxed $2842. This amount of tax is correct on $30,000. But John then starts his new job with another employer. In John’s mind, he believes that because he has started a new job during the financial year and that he is not working two jobs at the same time, that it’s fine for him to fill out his Tax File Number Declaration form and to claim the tax free threshold. This is actually very incorrect, and John could be in for a shock come tax time! John receives another $30,000 from his new employer who also withholds $2,842 tax. We know from Case Study 1 that the correct amount of tax on a total annual income of $60,000 is $12,247. John is well and truly under taxed this time ($2842 + $2842) because he believed that he was not affected by working two different jobs at different times during the financial year.
How can you avoid John’s situation?
If you work two or more jobs concurrently or if you change jobs one or more times during the financial year, remember to instruct your ‘second-job employer’ to tax you at the higher rate. To do this, you will need to complete a Tax File Number Declaration form and put a cross in the ‘NO’ box at Question 8 of the form. As you can see, even by doing this you still may be left short on tax for the year. If you are concerned you should contact us at Platinum Accounting & Taxation (03) 9746 6479 and we can advise you on how to make sure you are not caught out with a tax shortfall amount.
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