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Division 7A: How to Protect Your Private Company from Hidden Tax Traps
 
 
   

Division 7A: How to Protect Your Private Company from Hidden Tax Traps

News | Charu Sharma | Released: 26/06/2025 | Read: 5 Mins

For many directors and shareholders of private companies in Australia, accessing company funds can feel like a routine or harmless activity — whether it's borrowing money, repaying personal expenses, or distributing profits informally. However, what appears simple can quickly become a tax compliance nightmare if Division 7A rules are not properly understood and followed.
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Division 7A of the Income Tax Assessment Act 1936 was introduced to stop private companies from distributing profits in ways that avoid tax. Specifically, it targets situations where payments, loans, or forgiven debts are made to shareholders or their associates without being treated as formal dividends.

The penalties? Severe. If Division 7A applies, the Australian Taxation Office (ATO) may treat the benefit as a “deemed dividend” — which is:

  • Added to the recipient’s taxable income
  • Taxed at their marginal rate
  • Not franked, meaning no credit for company tax already paid

This article explores the mechanics of Division 7A, outlines how to stay compliant, and offers strategies to mitigate risk and manage loans effectively.
   

What Division 7A Actually Says?
   

Division 7A is not a separate tax — it’s an anti-avoidance regime that ensures private company profits aren’t distributed tax-free to shareholders or their associates.

It applies to:

  • Loans made by a company to a shareholder or associate
  • Payments made without a commercial basis
  • Forgiven debts owed by shareholders
  • Unpaid Present Entitlements (UPEs) from trusts to companies used for personal purposes
Key Conditions that Trigger Division 7A:
  • The company is a private company
  • The recipient is a shareholder or associate of a shareholder (e.g., spouse, child, or trust)
  • The transaction isn’t repaid or restructured by the due date for lodging the company’s tax return
To Avoid Division 7A Consequences, Loans and Payments must either:
  • Be repaid in full before the lodgement date; or
  • Be covered by a Complying Loan Agreement with strict terms
   

Key Division 7A Concepts- Summary Table
   
   

Decision Flow : Does Division 7A Apply? 
   
  

Case Study: When Things Go Wrong
   

The Scenario:

Samantha is the sole director and shareholder of SmartBuild Pty Ltd. She transfers $60,000 from the company bank account to buy a personal car. She considers this a “temporary loan” and makes no effort to formalize it.

The Problem:

 

  • No loan agreement is drafted
  • No interest is charged
  • The amount is not repaid within the required time
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ATO Assessment:

The transaction is not a salary, not a dividend, and not structured as a complying loan. As a result, it is deemed a Division 7A dividend.

The Outcome:

 

  • $60,000 is included in Samantha’s personal income
  • She pays tax at her full marginal rate
  • No franking credits are allowed
  • Possible penalties and interest are applied

 

How It Could Have Been Avoided:

  • Entering into a written complying loan agreement before the lodgement date
  • Charging interest at the ATO benchmark rate
  • Making minimum annual repayments over the term
   

Managing or Reducing Existing Division 7A Loan Balances
   

If Division 7A loans already exist on the company’s books, several strategies can help reduce their impact:

1. Declare Franked Dividends

Use franked dividends to reduce loan balances while providing the shareholder with franking credits.

2. Repay in Low-Income Years

Plan repayments during years where the shareholder's income is low to reduce tax payable on any deemed dividends.

3. Sell Assets to Free Up Funds

Selling personal or business assets can create liquidity to repay Division 7A loans.

4. Plan for Adult Children

When children turn 18, they may be used in family tax planning as lower-tax-rate individuals for certain distributions.

 5. Use the Right Business Structures

Asset purchases and loans through family trusts, companies, or partnerships may provide flexibility when structured correctly.
   

Division 7A Compliance Checklist:
   

Use this checklist to ensure your company is on top of Division 7A compliance before tax lodgement:

 

  • Have written loan agreements for all advances
  • Charge interest at or above ATO benchmark rate
  • Make minimum annual repayments on time
  • Declare formal dividends where appropriate
  • Don’t use company funds privately without structure
  • Monitor UPEs to avoid triggering Division 7A
  • Consult your accountant regularly
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Final Thoughts
   

Division 7A may seem technical, but it reflects a clear principle: profits distributed from private companies should be taxed appropriately. These rules are not optional and carry serious consequences if ignored.

That said, Division 7A does not have to be a burden. When managed proactively, it can be integrated into your tax planning strategy, giving you confidence and control over your company’s compliance position.

 

Our Tip: Don’t wait for year-end surprises. Work with your clients throughout the year to review transactions, document loans properly, and identify any Division 7A exposure early. A forward-thinking approach now can prevent costly issues later.

   
   

How We Can Help?
   

Need to set up a Complying Loan Agreement ?

We can assist in structuring your company affairs to ensure Division 7A compliance — without the stress.

 

Visit www.trustdeed.com.au Or call us on (02) 9684 4199

Let’s make tax compliance simpler and smarter — together.
   
   

Visit www.trustdeed.com.au for more details or call us on(02) 9684 4199
   

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