What is the Tax-free Threshold
Do you know the benefits of claiming the tax-free threshold as an employee?
Did you know claiming the tax-free threshold when you work two or more jobs can negatively affect your tax?
Are you still just trying to figure out what the tax-free threshold even is?
If you’re an Australian resident, the tax-free threshold means your first $18,200 earned in each tax year is tax free. But, as with most taxes or rebates, it’s not quite that simple, especially if you’re working more than one job or receive income from other sources. In fact, understanding the tax-free threshold can be a step towards getting more out of your tax return, or simply avoiding tax debt.
Let’s take a closer look at what the tax-free threshold is, how it can affect your income tax, and how you can make it work best for you.
What does a tax-free threshold mean?
What is the Tax-Free Threshold?
As an Australian resident, the first $18,200 you earn each year is free of tax. This is known as the tax-free threshold. It is usually claimed when you first start a new job or receive a new Centrelink payment. You will complete a Tax File Number Declaration form and answer ‘Yes’ to Question 9 – ‘Do you want to claim the tax-free threshold from this employer?’.
Who is Eligible for the Tax-Free Threshold?
Currently, only those who are considered Australian residents for tax purposes are eligible to claim the tax-free threshold. If you are only seen as an Australian resident for part of the year, you may be eligible for an adjusted tax-free threshold, made up of two parts:
- A flat amount of $13,464
- Up to an additional $4,736, calculated based the number of months from when you became an Australian Resident to June 30 (the end of the Australian tax year)
For those unsure, there is a Residency Test available on the ATO website. For working holidaymakers from some countries who pass the residency test, a recent case in the High Court could a positive change to your eligibility as well. Follow the news and ATO updates for more information.
All Australian residents who earn taxable income are eligible to claim the tax-free threshold. Taxable income could simply be your weekly wage from your single job, however, many of us earn income from various sources. According to the ATO, taxable income includes any of the following:
- Employment income
- Super pensions and annuities
- Government payments and allowances
- Investment incomes (from shares, interest, dividends, property, and capital gains tax)
- Business and trust incomes
- Income earned form overseas (foreign pensions, etc.)
- Incomes earned from compensation or insurances payouts
- The sharing economy and tax
- Some personal services income
This said, there are a number of income exemptions, including some government payments. If you think some or all of your income may be tax exempt, visit the ATO’s ‘Amount You do not Include as Income’ to confirm.
If, with all your income accounted for, you still earn less than the tax-free threshold limit of $18,200, then you may find you do not need to pax any tax for that financial year. This does not mean you don’t need to lodge a tax return as, in most cases, you still must declare your earnings and claimable expenses. You can check if you are exempt from lodging a tax return with the ATO’s Do I Need to Lodge Tool. In this case, you may need to submit a Non-Lodgment Advice instead.
How do I Claim the Tax-Free Threshold?
Claiming the tax-free threshold is as simple as completing the Tax File Number Declaration form when you start a new job or receive a new Centrelink payment. However, you can make changes to your tax-free threshold details at any time during employment. This is done by simply completing a Withholding Declaration for your employer/employers. If you do make changes, be aware of any timeframes for this change to take effect and the impacts of the changeover on taxable income for this period.
You can also request changes to your tax rate by varying your PAYG Withholding. This is particularly helpful if you believe you’ve been underpaying tax and are worried about a large tax debt at the end of the financial year, or if you discover you’re likely to receive a large refund would benefit more from the additional income immediately rather than at tax time. It’s important to remember that the granting of a variation is in no way an agreement by the ATO to the income and deductions stated in your variation application. This can only be calculated correctly at tax time.
What Happens if I don’t Claim my Tax-Free Threshold?
If you don’t claim the tax-free threshold for any of your jobs or income sources, you will pay a higher tax rate during the year but receive the equivalent back in a large tax return at the end of the financial year. For some people, particularly those who find they aren’t great at saving, this a purposeful tactic known as the ‘tax-free threshold savings strategy’. While this may work well for you as well, be aware that this means a much larger chunk of your income taken in tax from each pay. To break this down on a pay-by-pay level, the tax-free threshold accounts for your pay slip’s first:
- $300 per week
- $700 per fortnight
- $1,517 per month
It’s worth being sure you can budget freely without this sum before opting for this method of forced savings.
What if I have Two Different Jobs? Am I still Eligible to Claim?
Your eligibility to claim the tax-free threshold does not change whether you have one, two, five, or more sources of income. However, it is recommended you only claim the tax-free threshold from one employer, usually the highest-earning position. It is also important to make all employers you are not claiming from aware, so as your tax is not-undercalculated.
Because the Australian tax system is a progressive system, you pay more tax the more money you earn. The first tax bracket is earnings up to $18,200, meaning all Australian residents pay zero tax on their first $18,200 earned each year.
You will still be entitled to the full tax-free threshold amount of $18,200 even while working more than one job. The difference will be that you will likely claim part of the threshold throughout the year (through tax-exempt payments from your chosen employer). If you don’t earn the full $18,200 with your main employer, the remainder of the tax-free amount will be returned to you at tax time. This will likely also mean your second job and any other additional income is taxed in a higher tax bracket during the year.
Source: ATO, 2021, effective for Australian residents for financial year 2020/21. Above rates do not include the Medicare Levy of 2%
If you are very sure you won’t earn $18,200 from all sources of income, you may choose to claim the tax-free threshold from more than one employee or income source. However, it is important to remember that if you choose this option and earn over the threshold amount, you may incur a tax debt for the financial year.
Do I get all my tax back if I am earning below $18000?
In most instances, if you earn below the tax-free threshold, you will get the full amount of tax back for the year. However, there are additional levies and taxes, such as the Medicare Levy, which may impact on this.
The best way to ensure you receive your full refund is to follow the advice of your tax agent and account for all taxable income and any eligible rebates or offsets. Making sure you are claiming all your deductions can also make a huge difference to your return, even if you have reached the tax-free threshold limit.
While tax is never the most exciting thing to think or talk about, knowing basics, like the tax-free threshold can help you get the best refund from your hard-earned dollars. If you are changing jobs, be sure to check the right box when completing your Tax File Number Declaration, especially if you’re working more than one job, and the rest will be up to your employer. If you choose not to claim the tax-free threshold from any employee as a savings strategy, remember you can make changes at a later stage with Withholding Declaration.
If you have only been an Australian resident for part of the year, remember, you’re still eligible to receive a reduced tax-free threshold!
If you still have questions about the tax-free threshold, or how to make changes, speak to one of our tax professionals.