Frequent flyer points today, personal debt tomorrow?
If YouTube is any guide, paying tax with a credit card is a life hack that I am missing out on. I seem to receive a steady stream of advertisements promising frequent flyer points, improved cash flow, and the ability to put tax liabilities on a credit card.
The pitch is simple: your business is paying large sums of money for various expenses, so you may as well earn something back.
There is certainly some appeal in that proposition. However, before chasing points, directors should understand the possible risks associated with credit card use.
In some circumstances, using a credit facility to pay company tax debts may have the unintended consequence of replacing a company liability with a personally recoverable debt owed by the director.
When a Company becomes Your Debt
Ordinarily, a company's tax liabilities are owed to the Australian Taxation Office.
If the company later becomes insolvent and enters liquidation, the ATO will generally rank as a creditor in the external administration for any unpaid taxes.
When a credit card is used to pay the tax debt, the position changes immediately.
The ATO debt is extinguished because it has been paid in full. In its place sits a debt owed to a credit card provider or financier.
At first glance, this may appear to be a simple substitution of one creditor for another. However, the critical issue is determining who is actually liable for the replacement debt.
Who Really Owes the Credit Card Debt?
Many directors assume that because a credit card bears the company's name, the liability belongs solely to the company.
Unfortunately, this is not always the case.
Lenders commonly require:
personal guarantees from directors;
directors to be co-applicants;
directors to be jointly and severally liable; or
the facility to be supported by the director's personal credit profile.
If you’re unsure of your personal position, review the original application documents.
A good rule of thumb is to look at who signed the paperwork. If the director signed only in their capacity as a director, that may indicate the liability sits solely with the company. If the director signed in their personal capacity as an individual, signed a separate guarantee, or is named in the documentation in their own right, there will likely be direct personal exposure.
The Insolvency Trap
Consider a company with a $100,000 BAS liability.
The company utilises a credit card and third-party provider to pay the ATO in order to earn bonus points.
The ATO is paid, and the company's tax debt is extinguished.
Three months later, the company enters liquidation.
Had the BAS remained unpaid, the liability may have remained within the company and been dealt with through the liquidation process.
Instead, the director may now face a personal claim from the card provider for the full $100,000 together with interest and charges.
The commercial reality is that the director may have unintentionally transformed a corporate tax liability that would be dealt with in a liquidation into a personal debt that will survive the liquidation of the company.
In other words, a debt that may otherwise have remained within the insolvency process may now survive the company's failure and be recoverable directly from the director.
The Interest Cost Is Often Overlooked
If the Company is struggling with cash flow, it may not be able to pay off all credit card debt in the interest-free period.
Reserve Bank of Australia data indicates standard Australian credit card interest rates are around 21% per annum, while the average interest rate actually being paid on interest-bearing balances is over 18% per annum, according to ASIC1.
A director personally liable for a $100,000 balance could therefore face annual interest costs approaching $20,000 if the debt is not repaid promptly.
A facility initially obtained to deal with a short-term cash flow issue or to obtain bonus points for business expenses can therefore become a very expensive source of long-term finance.
What About the Credit Card Points?
The other feature commonly promoted is the accumulation of significant reward points from business expenditure.
While points may seem like a welcome bonus, directors should be cautious about assuming there are no taxation implications.
The ATO generally accepts that ordinary frequent flyer rewards earned from business expenditure or employer-funded travel are not automatically assessable income to the individual receiving them. However, the ATO has also made it clear that arrangements designed primarily to generate private rewards from business expenditure may attract closer scrutiny and may have income tax or fringe benefits tax implications in some circumstances. Directors should obtain tax advice before assuming substantial reward point benefits generated from company expenditure are entirely tax-free2.
Questions to Consider
Before using a credit facility to fund tax liabilities, directors should consider speaking with an accredited adviser and consider the following questions:
Is the business experiencing a temporary cash flow issue or actual insolvency?
Who is legally liable for the credit facility?
Has any personal guarantee been provided?
What interest rate applies after the interest-free period expires?
Are there any fringe benefits tax implications associated with reward points?
Is there a better restructuring or payment arrangement available?
Does the potential reward justify the personal risk being assumed?
Final Thought
Paying tax with a credit card can have genuine upsides.
However, directors shouldn’t let the lure of first-class family trips to Europe drive what is ultimately a business and financial decision.
When poorly used, the ATO debt is replaced by a high-interest debt carrying interest rates approaching 18-21% per annum and which may be personally recoverable against the director.
The points may be attractive, but nothing in life is free. The possibility of converting a company tax debt into a personal debt should be factored into any decision.
Reach out to your local Worrells Principal.
