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Tax

How Australian individual income tax works: the structure and rules that stay the same from one year to the next.
Author

Benedict Thekkel

1. The big picture

  • As a resident for tax purposes you pay tax on your taxable income for the financial year (1 July to 30 June). The year is named by the 30 June it ends on, so FY2025 is 1 July 2024 to 30 June 2025.
  • The system is progressive. A higher income attracts a higher marginal rate, but only on the part of income inside that bracket. A pay rise never lowers your take-home pay.
  • You lodge a return with the Australian Taxation Office (ATO) each year. It declares all assessable income, claims allowable deductions, and works out what you owe or get back.
  • On top of income tax there is the Medicare levy, a flat percentage of taxable income once you are above a low-income threshold.
  • If you hold a study loan (HELP, VSL, SSL and the other study and training support loans), a compulsory repayment is worked out from your repayment income. It is collected through the tax system, but it is a debt repayment, not a tax.

The case these pages work through is having more than one kind of income at once: salary with tax withheld, contracting income with nothing withheld, and investment income that arrives as interest, dividends, ETF distributions and trading results. Each is declared in a different place and each has its own deduction rules.

The rates, thresholds and caps change every year, so this page names them but does not quote them. The numbers for each year are on that year’s page (section 8).

2. How the calculation flows

Every return follows the same order. The order matters, because offsets and credits behave differently depending on where they sit.

flowchart TD
    A[Assessable income<br/>salary + contracting + interest<br/>+ dividends + franking credits<br/>+ trust distributions + net capital gain] --> B[Less deductions]
    B --> C[Taxable income]
    C --> D[Tax on the brackets]
    D --> E[Less non-refundable offsets<br/>e.g. LITO. Cannot go below zero]
    E --> F[Plus Medicare levy]
    F --> G[Plus compulsory study loan repayment]
    G --> H[Total liability]
    H --> I[Less refundable credits<br/>tax withheld + franking credits]
    I --> J{Result}
    J -->|positive| K[Amount owed]
    J -->|negative| L[Refund]

  1. Assessable income is everything you must declare. Franking credits are added to it (grossed up) and then given back later as a credit.
  2. Taxable income is assessable income less deductions. Every threshold in the system keys off this number, or off a variant of it.
  3. Tax on the brackets is calculated on taxable income, one bracket at a time.
  4. Non-refundable offsets, such as the Low Income Tax Offset (LITO), reduce that tax but can only take it to zero. Any unused part is lost.
  5. The Medicare levy is added. It is not reduced by LITO.
  6. The compulsory study loan repayment is added, calculated from repayment income.
  7. Refundable credits come off last: all tax withheld (PAYG, or pay as you go) and franking credits. Credits above the liability come back as a refund.

The study loan trap. The study loan amount your employer withholds is part of the total tax withheld on your income statement. It is a credit like any other withholding. The compulsory repayment is then charged separately as part of the liability. If you estimate a refund and leave out the repayment, the estimate is wrong by roughly the amount withheld for the loan.

3. The income types and what each one means

Employment income

  • Your employer withholds PAYG tax from each payslip, so tax on this income is largely pre-paid.
  • Your income statement (formerly the payment summary) pre-fills into myTax once the employer marks it tax ready, usually by mid July. Do not lodge before it says tax ready.
  • Employer superannuation guarantee (SG) contributions are not part of your taxable income. They go to your super fund and are taxed inside it at 15%.
  • Study loan amounts withheld are part of total tax withheld. They are credited back at assessment and the actual repayment is charged separately (section 2).

Contracting income

  • A private contractor is normally a sole trader unless a company has been set up.
  • Nothing is withheld, so you have to set money aside yourself. A common rule of thumb is 25% to 30% of each payment.
  • Register a free ABN (Australian Business Number) and quote it on invoices. Without an ABN the payer must withhold 47%.
  • GST (goods and services tax) registration becomes compulsory once annual turnover reaches $75,000. Below that it is optional and usually not worth the administration.
  • When the income counts. An individual selling their own services generally declares fees when they are received, not when the work was done or invoiced. An invoice for June work paid in July belongs to the next year. Whatever basis you use, use it consistently.
  • Where the income is mainly a reward for your personal skills or effort, the Personal Services Income (PSI) rules apply. If you do not pass one of the PSI tests (see the next table), deductions are limited to roughly what an employee doing the same work could claim.

PSI or business income

You have PSI if You have business income if
The client pays for your skills or effort Income comes from a business structure, assets or staff
The income stops when you stop working The business could run without you
You do not have staff doing the main work You sell products, not just your own services

PSI is treated as a personal services business (and the restrictions fall away) if you pass one of four tests: the results test (paid for an outcome, supply your own tools, liable to fix defects), or, if no more than 80% of PSI comes from one client, the unrelated clients test, the employment test or the business premises test. Skills-based contracting for one or two clients usually passes none of them.

Investment income

  • All investment income must be declared: interest, dividends, ETF and managed fund distributions, and gains or losses on disposals.
  • Interest from every account counts, including savings accounts and the cash account at a broker. Pre-fill is often incomplete, so total it from each bank’s annual statement.
  • Dividends and franking. Under dividend imputation you declare the cash dividend plus the franking credit, then receive the franking credit back as a refundable credit. The credit reflects the tax the company already paid at its own rate.
  • ETF distributions are trust distributions, not dividends. An ETF is a trust, so its distributions go in the managed funds section of myTax. Each ETF issues an annual tax statement (an AMMA or AMIT statement) splitting the distribution into franked and unfranked amounts, interest, foreign income, foreign tax paid, and capital gains. Enter the components from that statement. Do not enter the cash received.
  • Capital gains. A share or ETF unit held more than 12 months qualifies for the 50% CGT (capital gains tax) discount. A capital loss can only offset a capital gain, never salary. Unused capital losses carry forward indefinitely.
  • Investor or trader. An investor’s gains are capital, with the CGT discount. A trader’s gains are ordinary income, with no discount, but losses are deductible against other income.
  • CFDs and other derivatives (contracts for difference) entered into for profit are generally on revenue account (ATO ruling TR 2005/15). Net gains are ordinary income and net losses are generally deductible. They are not capital gains, so the CGT section is the wrong place for them. Pick a treatment, apply it consistently across years, and ask a registered agent if unsure.

4. Deductions: what is claimable and what is not

A deduction reduces taxable income, so it is worth your marginal rate, not its face value. A $100 deduction at a 30% marginal rate saves $30. An offset is different: it reduces the tax itself, dollar for dollar.

Three rules apply to every deduction. You must have spent the money yourself and not been reimbursed. It must relate directly to earning your income. You must have a record to prove it.

Work from home

Two methods, and you pick one for the whole year:

Method What it covers Records needed
Fixed rate (a cents-per-hour rate set by the ATO for each year) Electricity, gas, internet, phone, stationery, computer consumables A record of actual hours worked from home for the whole year: timesheets, rosters, a diary. An estimate or a sample period is not accepted
Actual cost The work share of what you really spent Bills, plus a work-use apportionment (diary, floor area)

Under the fixed rate method you cannot separately claim the running costs it covers. You can still claim depreciation of equipment and furniture (desk, chair, monitor, computer) on top.

Equipment and depreciation

  • An item costing $300 or less that is used mainly for employment income is deductible in full in the year you buy it (the work-use share of it).
  • Above $300 it is depreciated (decline in value) over its effective life, using the ATO’s effective life tables. Prime cost spreads it evenly. Diminishing value front-loads it.
  • The first year is pro-rated by the days you held it. A laptop bought in March gets about a third of a year’s decline, not a full year’s.
  • Claim only the work-use share, and keep the receipt for as long as you claim the item plus the record-keeping period.
  • Small businesses (which includes a sole-trader contractor) have a separate, larger instant asset write-off for assets used in the business. The threshold is set each year.

The common no-go areas

  • Commuting between home and your regular workplace.
  • Conventional clothing, even if you only wear it to work.
  • Anything your employer reimbursed.
  • Study loan repayments. They repay a debt.
  • Income tax itself, and penalties.

Contractor business expenses

A sole trader deducts business expenses against business income: equipment, software, professional indemnity insurance, accounting fees, and the business share of phone and internet. Where the PSI rules apply and no PSI test is passed, deductions are restricted to roughly what an employee doing the same work could claim, and rent or mortgage interest for the home is out.

5. Compliance and admin checklist

Item Why it matters Action
ABN for contracting income Without one the payer must withhold 47% Register free as a sole trader and quote it on every invoice
Separate bank account for contracting Separates business from personal and makes the year-end tally trivial Route all contracting income and expenses through it
Tax buffer on contracting income Nothing is withheld, so the whole liability lands at lodgement Move 25% to 30% of each payment aside as it arrives
PAYG instalments Once the ATO sees a pattern of tax owing it puts you on quarterly instalments Expect it after a year with significant contracting income
Work from home hours log The fixed rate method needs actual hours for the whole year Keep a running log. Do not reconstruct it in July
Receipts for equipment Depreciation runs for years, and each year’s claim needs the original receipt Keep a folder per year, and carry forward a depreciation schedule
Broker and ETF statements Cost bases, franking credits and distribution components come from them Download every annual tax statement before starting the return
Lodgement deadline Penalties apply for late lodgement 31 October if lodging yourself. A registered tax agent gets a later date, but you must be on their books before 31 October
Record retention The ATO can review a return for years afterward Keep records 5 years from lodgement. For assets, 5 years after the asset is sold

6. Forward planning

  • Superannuation is the largest available lever. Concessional (before-tax) contributions are taxed at 15% inside super instead of your marginal rate. They are limited by an annual cap, and unused cap from the previous five years can be carried forward while your total super balance is under a set limit. Employer SG counts toward the cap. The cost is that the money is locked up until preservation age.
  • Hold shares past 12 months where the decision is otherwise neutral. The 50% CGT discount is usually worth more than any short-term timing advantage.
  • Time capital gains and losses against each other. Capital losses only offset capital gains, so realising a loss in a year with gains is worth more than in a year without.
  • Watch the GST threshold as contracting grows. Crossing it means registration, BAS (business activity statement) lodgement, and charging GST on invoices.
  • Reconsider the structure only when the numbers justify it. A company pays a flat rate but adds real annual compliance cost, and the PSI rules often remove the benefit anyway for skills-based work.
  • A registered tax agent is itself deductible and is generally worth it once contracting and investments are both in play.

7. Lodging in myTax

myTax is the ATO’s online return, reached through myGov (ATO > Tax > Lodgments > Income tax). The flow is the same every year:

  1. Wait for pre-fill. Employer income statements, bank interest, dividends, managed fund distributions, private health and government payments flow in through July and August. The income statement must say tax ready.
  2. Contact details and personalise. The “Personalise your return” screen decides which sections of the return you are shown. Ticking a category only adds a section, and you can leave it empty. Leaving one unticked hides income you may still have to declare.
  3. Prepare the return. Check every pre-filled amount against your own records, add what pre-fill missed, and enter deductions. myTax works in whole dollars.
  4. Review the estimate, then lodge. The estimate is myTax’s own calculation. The Notice of Assessment that follows is the source of truth for what was actually lodged.
  5. Amend if needed. You can amend an individual return for two years from the notice of assessment, through the same Lodgments screen.

Self-assessment applies throughout. Pre-fill is a convenience, not a declaration. You are responsible for the return whether or not a figure was pre-filled.

The year pages walk through each screen with that year’s rules.

8. Year by year

Each financial year has its own page with that year’s rates and thresholds, a calculator, and the rules that changed. The page number is the last two digits of the year.

Page Year Covers
FY2025 1 July 2024 to 30 June 2025 The Stage 3 rates, every threshold for the year, and a step-by-step guide to filling in myTax
FY2026 1 July 2025 to 30 June 2026 What changed from FY2025: the marginal study loan system, the 12% super guarantee, the raised Medicare thresholds, and ATO interest charges no longer deductible

Where the real figures live

These pages are published, so they contain no actual income, deduction or tax figures. Every number is either a published ATO rate or an illustrative round number.

The real figures live in a per-year taxes summary kept outside nbs/, next to the payslips, invoices and receipts it is built from. Nothing outside nbs/ is rendered, so none of it reaches the published site.

References

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