Your guide to understanding the tax-free threshold
The tax-free threshold is the amount of income that you can earn each year without having to pay income tax. In Australia, the tax-free threshold for the 2021-2022 financial year is $18,200. This means that if you earn less than $18,200 per year, you will not have to pay any income tax. If you earn more than this amount, you will be required to pay tax on the portion of your income that exceeds the tax-free threshold.
The tax-free threshold is different for residents and non-residents of Australia. Generally non-residents are not eligible for the tax-free threshold.
How income tax is calculated
Income tax in Australia is calculated based on the amount of taxable income that you earn in a financial year (1 July to 30 June). Taxable income is your assessable income, which includes most types of income, such as salary and wages, business income, rental income, and investment income less any allowable deductions.
To calculate your income tax, you first need to determine your taxable income by subtracting any deductions and exemptions that you are entitled to from your total income. You can then use tax tables provided by the Australian Taxation Office (ATO) to determine the amount of tax that you owe based on your taxable income.
The tax rate that you pay on your taxable income depends on how much you earn. There are five tax brackets in Australia:
0% tax on taxable income up to $18,200
19% tax on taxable income between $18,201 and $45,000
32.5% tax on taxable income between $45,001 and $120,000
37% tax on taxable income over between $120,001 and $180,000
45% tax on taxable income over $180,000
In addition to these tax rates, you may also be required to pay the Medicare levy, which is a tax that helps fund the Australian healthcare system. The Medicare levy is currently 2% of your taxable income.
It's important to note that the tax rates and thresholds I've mentioned are for the 2022-2023 financial year and may be subject to change in future years.
Starting 1 July 2024, there will be 4 tax brackets with some significant changes in tax brackets:
0% tax on taxable income up to $18,200
19% tax on taxable income between $18,201 and $45,000
30% tax on taxable income between $45,001 and $200,000
45% tax on taxable income over $200,001
How to claim the tax-free threshold
If you are entitled to the tax-free threshold, you can claim it when you complete your tax return. The tax-free threshold can be claimed on the tax return of any individual who is an Australian resident for tax purposes and who earned less than the tax-free threshold in the relevant financial year.
If you are eligible to claim the tax-free threshold and you do so, you will not have to pay tax on the first $18,200 of your taxable income in the 2022-2023 financial year. Any income above this amount will be taxed at the applicable tax rate.
The tax-free threshold's impact on PAYG withholding tax
If you have multiple employers, you generally only claim the tax-free threshold from one of them. This is typically the source that pays you the highest salary or wage. This is because income from your second job is taxed at the highest marginal rate tax rate.
When you file your income tax return, the tax withheld from all sources will be assessed, and if:
too much tax was withheld, which may result in a tax refund, or
not enough tax was withheld, in which case you may receive a bill to pay the difference.
You can request changes to the amount of tax withheld from your income to better match your end-of-year tax liability.
If your income is $18,200 or less
If you're certain your total income from all employers for the financial year will be $18,200 or less, you can choose to claim the tax-free threshold from each payer.
However, if your total income subsequently increases above $18,200, you will need to provide one of your employers with a withholding declaration indicating that you want to stop claiming the tax-free threshold from that payer.
Example: if your income is $18,000 or less
During the 2022-2023 financial year, Walter has a taxable pension of $10,000 ($384.61 per fortnight) and a part-time job that pays $8,000 ($307.69 per fortnight).
He claims the tax-free threshold on his pension, so no tax is withheld.
If he doesn't claim the tax-free threshold for his part-time job, $64 per fortnight will be withheld.
As a result, Walter's taxable income for the financial year will be $18,000 and he will not owe any income tax, resulting in tax payable of nil. He will receive a refund of the total tax withheld when he lodges his 2023 income tax return.
If Walter expects to have the same income in the next financial year, he can choose to claim the tax-free threshold for his part-time job as well by completing a withholding declaration and providing it to his employer, which will result in no tax being withheld from his pay.
Example: If your income is over $18,200 and too much tax is withheld
If your income is greater than $18,200 and too much tax has been withheld from your payments, you can apply to have the amount of tax withheld reduced by completing and submitting a PAYG withholding variation application to the appropriate tax authority.
Once the Australian Tax Office (ATO) receives your application, it will calculate the variation amount and provide your payers with new instructions for withholding your tax.
You should only apply for this variation if you are certain of your income amounts and are being disadvantaged by the current withholding rates.
Example: too much tax withheld during the year
Anna has two jobs during the 2022-2023 financial year. In her role as a part-time retail sales assistant, she earns $16,000 ($615.38 per fortnight), and as a restaurant worker, she earns $10,000 ($384.62 per fortnight).
Anna claims the tax-free threshold from her retail employer, so no tax is withheld.
As she does not claim the tax-free threshold from her restaurant employer, $82 per fortnight is withheld, totalling $2,132 for the financial year.
Since Anna does not have any other sources of income, her tax liability or refund when she lodges her tax return will be calculated based on her total income and the amount of tax withheld, as follows:
Taxable income $26,000
Income tax payable on $26,000 $1,482
Less, Low income tax offset $700
Less, Low and middle income tax offset $675
Plus, Medicare levy $263.50
Total tax and Medicare levy $370.50
Credit for total tax withheld $2,132.00
Tax refund due to Sue $1,761.50
Anna is entitled to a tax refund of $1,761.50 because too much tax was withheld from her income during the financial year. If this situation is expected to continue in future years, Anna can apply for a withholding variation to reduce the amount of tax withheld from her pay, which will result in her receiving more net pay throughout the year rather than receiving a large tax refund at the end of the year.
If too little tax is withheld
If the total tax withheld from your payments is not enough to cover your tax liability for the financial year, you may end up with a tax debt at the end of the year.
To avoid this, you can request that one or more of your payers increase the amount of tax withheld from your payments. Your request should be in writing and can be made in any format, such as via email, paper, or computer-based form.
Example: too little tax withheld
Pierce receives a taxable pension and has a part-time job. Over the course of the 2022–23 income year, he receives:
$30,000 from the pension – Pierce's payer applies the Medicare levy and tax-free threshold to his fortnightly payments.
$30,000 from the part-time job – Pierce's employer applies the Medicare levy and no tax-free threshold to his fortnightly payments.
At the end of the income year, the total tax withheld from Pierce's income will be $9,828 ($378 × 26).
When Pierce lodges his tax return for the income year, the actual amount of income tax he has to pay, or tax refundable to him, will be calculated as follows:
Taxable income $60,000
Income tax payable on $60,000 $9,967
Less, Low income tax offset $100
Plus, Medicare levy (2% of $60,000) $1,200
Total tax and Medicare levy $11,067
Credit for total tax withheld $9,828
Tax payable $1,239
How can I reduce my taxable income?
There are a number of ways you can reduce your taxable income in Australia:
Make use of tax deductions
Tax deductions are expenses that are directly related to earning your income and can be used to reduce your taxable income. Examples of tax deductions include work-related travel expenses, the cost of tools and equipment needed for your job, and self-education expenses.
Contribute to superannuation
Contributions to your superannuation fund are generally taxed at a lower rate than your income, so making additional contributions to your super can help reduce your taxable income.
Consider salary sacrificing
Salary sacrificing involves agreeing to receive part of your salary as a benefit instead of as cash. This can help to reduce your taxable income, as the benefits you receive may be taxed at a lower rate than your salary. For more information on Fringe Benefits Tax, see our article here.
Make use of tax offsets
Tax offsets, also known as rebates, are amounts that are subtracted from the amount of tax you owe. There are a number of tax offsets available in Australia, such as the low-income tax offset and the senior Australians tax offset.
Tax offsets or credits reduce the amount of tax that you owe on your taxable income, whereas deductions reduce your assessable income.
Reducing your assessable income or increasing your deductions can lower your taxable income.
For example, negative gearing involves offsetting an investment loss against other income, thereby increasing deductions and lowering taxable income. Similarly, salary sacrificing some of your pre-tax income into superannuation reduces your assessable income, which indirectly lowers your taxable income.
If you make personal tax-deductible contributions to your superannuation fund up to the annual limit of $27,500, you can claim a tax deduction by completing an ATO form and submitting it to your fund. Your superannuation fund will tax your contribution at a concessional rate of 15% rather than your marginal tax rate.
It is important to keep records of your tax deductions for at least five years in case you are audited by the ATO and need to substantiate your claim.
For low-income earners, the low-income tax offset can effectively "increase" your tax-free threshold. For example, if you earn $37,500 or less, you're entitled to a maximum offset of $700. This has the effect of increasing your tax-free threshold to $21,884, meaning you wouldn't pay tax on the first $21,884 you earn.
What is included in assessable income?
Assessable income is the total amount of money that you earn in a financial year that is subject to income tax. It includes a wide range of types of income including employment income, super pensions and annuities, government payments, investment income, business, partnership and trust income, foreign income, and crowdfunding income.
Some types of assessable income, such as employment income, will be automatically reported to the ATO by your employer and financial institutions.
Employment income includes any money that you receive from full-time, part-time, or casual work, such as:
Salary, wages, commissions, bonuses, parental leave pay, and payments from a work-related insurance scheme like income protection, sickness/accident payments, or worker's compensation.
Allowances from your employer, such as car, travel, clothing, laundry, meal, working conditions, or special duties/qualifications allowances.
Other income such as tips, awards, or discounted employee shares.
Employment income can also include lump sum payments, like those made for unused leave when you leave a job.
Reportable fringe benefits that you receive over a 12-month period in excess of $2,000, like using a company car for personal purposes or having your employer cover some of your personal expenses as part of a salary packaging arrangement. Although you need to declare fringe benefits, you do not pay tax on them; instead, they are used to determine your eligibility for government benefits.
Super pensions and annuities
If you receive a pension from your superannuation fund, it may be made up of three different components:
a taxed element (for which tax has already been paid).
an untaxed element (for which tax is still payable).
a tax-free element (for which no tax is due).
Depending on your age, you may need to report both the taxed and untaxed elements as income in the financial year in which you receive the payments in order to determine your overall tax liability or refund.
If you receive regular income from an annuity, it may also have taxable and tax-free components. You will need to report the taxable components as income.
If you receive government payments like the Age Pension or carer payments, you must report them on your tax return, even if they are tax-exempt. This is because they may affect your eligibility for other government benefits and tax offsets.
Investment income can include:
Interest you receive from accounts you have with banks or other financial institutions
Share dividends or returns from managed funds
Rent from an investment property
Capital gains you make on the sale of an asset
Business, partnership, and trust income
Business income from sole trader activities, income generated from a partnership, or trust distributions all can contribute to your personal income.
If you are an Australian resident for tax purposes, you're required to report any foreign income that you receive, even if it has already been taxed in another country. The ATO uses credits and exemptions to determine if Australian tax is due on any foreign income that you have earned.
If you raise income through crowdfunding for a project or venture, some of it may be subject to income tax if you are operating a business or other profit-making scheme.
Income which isn't assessable
Other payments that you may receive that aren't included in your assessable income:
lump sum payments from insurance policies
the tax-free component of eligible termination payments
genuine redundancy payments
child support or maintenance payments
If you are an Australian resident for part of the year
If you are an Australian resident for tax purposes for only part of the financial year, you're eligible for a part-year tax-free threshold. The part-year tax-free threshold consists of a flat amount of $13,464 and an additional amount of $4,736 based on the number of months you were in Australia during the year, including the month you arrived.
Non-residents are not eligible to claim the tax-free threshold and must pay tax on all income earned in Australia. The rules for determining your Australian residency for tax purposes can be complex, and it's a good idea to seek advice from a tax professional if you're unsure of your status. We have much experience working with expats and with people who spend part of the year working and living overseas.
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Any advice contained in this document is general advice only and does not take into consideration the reader’s personal circumstances. Any reference to the reader’s actual circumstances is coincidental. To avoid making a decision not appropriate to you, the content should not be relied upon or act as a substitute for receiving financial advice suitable to your circumstances.