How to Extract Money from Your Australian Company

Withdrawing wealth from your proprietary limited company is difficult. Australian tax law, particularly the tortious Division 7A rules, is designed to keep wealth ‘trapped’ inside the corporate structure.

Your company is a separate legal person. The company’s money is not your money. Taking cash without a documented strategy is a breach of your duties as a director and an open invitation for an audit from the Australian Taxation Office (ATO).

A single mistake triggers severe tax penalties. This guide outlines the primary methods for extracting wealth, their numerical impact, and the significant legal risks associated with them.

Method 1: Pay Director Fees and Wages

This is the most direct method. The company employs you as a director or employee and pays you a salary, wage, or director’s fee for services rendered.

The company, as an employer, deducts Pay As You Go (PAYG) tax and pays mandatory superannuation. The company claims a tax deduction for this expense. This provides you with a regular income stream.

The Tax Risk of Unreasonable Director Fees

A common misconception is that directors pay any amount to family members. This is incorrect. For an expense to be deductible, section 8-1 of the Income Tax Assessment Act 1997 (Cth) requires it to be “incurred in gaining or producing assessable income”.

Paying a $300,000 director’s fee to a spouse who performs no duties fails this test. The ATO rules that this payment is not a genuine expense but a disguised distribution of profit.

If the ATO denies the company’s $300,000 deduction, the company’s taxable income increases by $300,000. The company pays the back tax, plus penalties and interest.

The ATO’s Anti-Avoidance Weapon: Part IVA

The ATO also attacks these arrangements using the general anti-avoidance provisions in Part IVA of the Income Tax Assessment Act 1936 (Cth).

Part IVA allows the ATO to cancel any ‘tax benefit’ obtained from a ‘scheme’. Paying a non-commercial salary to a non-working spouse is a classic scheme. The ATO cancels the company’s deduction and assesses the income in the hands of the person who truly earned it.

The “Unpaid Director Fee” Trap (TA 2011/4)

The ATO specifically targets a sham arrangement described in Taxpayer Alert TA 2011/4.

The Trap:

1. A company passes a resolution on 29 June to pay a $100,000 director’s fee.
2. The company claims a $100,000 tax deduction for that year.
3. The company never pays the fee. It is left as an “accrual” in the books.
4. The director, not having been paid, does not declare the $100,000 as income.

The ATO views this as a sham. It denies the company’s $100,000 deduction, arguing the expense was not ‘incurred’. This leads to a massive back-tax bill for the company.

Action	Genuine Service (s 8-1 Compliant)	Sham Payment (Non-Working Spouse)	Unpaid “Accrued” Fee (TA 2011/4)
Payment	$80,000 salary for genuine marketing work.	$200,000 “director fee” for no duties.	$100,000 “director fee” accrued, not paid.
Company Tax	Company claims $80,000 tax deduction.	ATO denies $200,000 deduction.	ATO denies $100,000 deduction.
ATO Attack	None. Legitimate deduction.	Section 8-1 (not genuine). Part IVA (scheme).	Sham arrangement. Section 8-1 (not ‘incurred’).
Penalty	$0	Company back-tax + ATO penalties + GIC.	Company back-tax + ATO penalties + GIC.

 

Method 2: Distribute Profits via Franked Dividends

This is the legally correct method for distributing retained earnings to shareholders.

How Franked Dividends Stop Double Tax

Companies pay tax on their profits. For most trading businesses (with under $50 million turnover and low passive income), this rate is 25%.

When the company distributes this after-tax profit as a dividend, it ‘franks’ it. This attaches a ‘franking credit’ for the tax the company already paid. This system stops the same profit from being taxed twice.

Franked Dividend Calculation Example

Your company, ‘Smith Pty Ltd’, earns $100,000 in profit.

1. It pays company tax at the 25% rate: $25,000.
2. This leaves $75,000 in retained profits.
3. Smith Pty Ltd pays this $75,000 to you as a fully franked dividend.
4. You receive a dividend statement showing:
   • Cash Dividend Paid: $75,000
   • Franking Credit: $25,000
5. In your personal tax return, you declare the “grossed-up” amount: $75,000 + $25,000 = $100,000.
6. Assume your personal marginal tax rate is 47% (including Medicare). Your tax on the $100,000 is $47,000.
7. You use the $25,000 franking credit to offset this tax bill.
8. Your final “top-up” tax payable is: $47,000 – $25,000 = $22,000.

The Corporate Law Catastrophe: Section 254T

Paying a dividend is not a simple accounting entry. It is a strict legal act governed by the Corporations Act 2001 (Cth).

Section 254T provides a three-part test. A company must not pay a dividend unless:

1. the company’s assets exceed its liabilities, and the excess is sufficient for the payment; and
2. the payment is fair and reasonable to the company’s shareholders; and
3. the payment does not materially prejudice the company’s ability to pay its creditors.

The Insolvent Trading Nightmare (s 588G)

Breaching section 254T is a catastrophe. “Materially prejudice” means you cannot pay your suppliers, the ATO, or your rent after you pay yourself the dividend.

If paying that dividend causes the company to become insolvent, the directors are personally liable for insolvent trading under section 588G of the Corporations Act 2001. A liquidator sues the directors to repay the full amount of the dividend personally.

Real Life Horror Story: The Dick Smith Collapse

The case of DSHE Holdings (Receivers and Managers Appointed) v Abboud NSWSC 673 is a stark warning.

• The Act: Dick Smith’s directors approved millions in dividends.
• The Problem: The company was funding operations with supplier money. The directors relied on “profit” figures based on “hopeful” supplier rebates, not actual cash flow.
• The Breach: The receivers argued the directors breached their duties. The dividend payments did materially prejudice the company’s ability to pay its creditors (the s 254T test).
• The Outcome: The executive directors were held personally liable for the entire amount of the dividend paid, resulting in millions of dollars in costs.
• The Lesson: Profit on a spreadsheet does not equate to solvency.

Method 3: Division 7A Loans (The Main Event)

Directors often “borrow” money from their company. This is the single most dangerous area of tax law for private company owners.

This area is governed by the strict rules in Division 7A of Part III of the Income Tax Assessment Act 1936 (Cth).

The ATO Myth: “My Company’s Money is My Money”

The ATO debunks this myth every year. A private company is a separate legal entity. Treating its bank account like your personal wallet triggers Division 7A.

Division 7A is an anti-avoidance rule. It stops private company owners from accessing profits tax-free through “payments, loans, and forgiven debts”.

The Div 7A Penalty: A 47% Tax Bomb

If a company makes a loan to a shareholder (or their ‘associate’, like a spouse or Family Trust) and fails to comply, the consequences are severe.

The ATO deems the entire loan amount to be an unfranked dividend paid to the borrower. The borrower includes the full amount in their personal tax return. No franking credits are attached.

The Solution: A Complying Division 7A Loan

This disaster is avoided with a written, compliant loan Deed. This agreement must be signed before the company’s lodgement day for the year the loan is made.

A “complying loan” must meet these ATO criteria:

• It must be in writing.
• The interest rate must be at least the ATO’s ‘benchmark interest rate’ (which changes annually).
• The term cannot exceed 7 years (unsecured) or 25 years (if secured by a registered mortgage).
• The borrower must make a minimum yearly repayment (MYR) each year.

The Expert Trap: ‘Agreement’ vs. ‘Deed’

This is a legal trap that renders most non-law firm “agreements” void.

• A simple ‘agreement’ (a contract) is only valid if there is ‘consideration’. This means something of value is exchanged.
• Many Div 7A loans are just journal entries. The ATO argues a journal entry is not valid consideration.
• If there is no consideration, the ‘agreement’ is void. This means you have no complying loan. The Div 7A penalty applies.
• A Deed is a special legal document. A Deed is binding without consideration.
• A Div 7A loan must be drafted as a Deed to be safe from this ATO attack.

The Divorce Trap: Div 7A and Family Law

A Family Court order (under the Family Law Act 1975) orders your company to transfer a $500,000 asset to your ex-spouse. This is common in property settlements.

This transfer is a ‘payment’ from the company to an ‘associate’ (your ex-spouse). This triggers Division 7A.

The result is a financial disaster. Your ex-spouse receives the $500,000 asset, and the ATO issues them a deemed unfranked dividend assessment for $500,000. This results in a $235,000 tax bill, destroying the entire settlement. The case of Pavlic & Pavlic highlights this exact danger.

 

Method 4: Claim Director Expense Reimbursements

This is a simple and non-taxable extraction. The company reimburses you for business-related expenses you paid for personally. This includes travel, office supplies, or vehicle costs.

This repayment is tax-free. It is a reimbursement, not income. The company claims a tax deduction for this reimbursement under section 8-1 of the ITAA 1997.

The Fringe Benefits Tax (FBT) Trap

This method is only for legitimate business expenses. If the company pays for or reimburses your private expenses (e.g., your home mortgage, holidays, or school fees), this triggers the Fringe Benefits Tax Assessment Act 1986 (Cth).

FBT is a separate, punitive tax paid by the company. It is levied at the highest marginal tax rate (47%) on the ‘grossed-up’ value of the benefit.

FBT Calculation: The Company Car

A company car is the most common fringe benefit. Keeping a logbook is critical.

FBT on a $40,000 Car	Calculation	FBT Payable by Company
1. Statutory Formula(No Logbook)	The law assumes a flat 20% private use.Taxable Value: $40,000 * 20% = $8,000	$8,000 (Value) * 2.0802 (Gross-Up) * 47% (Rate)= $7,819.55
2. Operating Cost Method(With Logbook)	FBT is paid on the actual private use percentage. Logbook shows 10% private use. Total running costs are $15,000.Taxable Value: $15,000 * 10% (Private Use) = $1,500	$1,500 (Value) * 2.0802 (Gross-Up) * 47% (Rate)= $1,466.17
Outcome		Keeping a logbook saves the company $6,353.38 in FBT.

 

Method 5: Recover Startup Capital (Loan to Company)

This method applies if you previously lent money to your company. For example, you provided $50,000 in startup capital. This is a “Director’s Loan (Credit)” on the company’s balance sheet.

The company repays this $50,000 principal to you. This repayment is not income. It is a tax-free return of your own capital.

The Legal Danger: ‘Debt’ vs. ‘Equity’

The greatest risk is a lack of documentation. If you have no formal loan agreement, the ATO challenges the arrangement. This is the “Debt vs. Equity” trap, governed by Division 974 of the ITAA 1997.

The ATO argues your $50,000 advance was not a ‘loan’ (debt) but a capital injection (equity). An undocumented, interest-free, “at-call” loan from a related party is a key indicator of equity.

If the ATO succeeds, it re-characterises the $50,000 ‘repayment’ as a disguised unfranked dividend. This triggers a massive personal tax bill.

In a liquidation, an undocumented loan makes you an ‘unsecured creditor’. You are last in line and recover nothing.

This disaster is avoided with a Legal Consolidated Loan Agreement to a Company built at the time you advanced the money. This document is the legal evidence that proves the transaction was a genuine debt.