It is not uncommon for professional people who provide services to set up a separate entity to run their business, be it a trust, partnership or incorporated company. The allure of course is the lower tax rate that these entities can secure, rather than at the top marginal rate of 49% (or 47% after July 1, when the Temporary Budget Deficit Repair levy ends) that a sole trader or an individual would generally wear. Clients with potential PSI issues? Running a business through such a structure can also lead to a wider range of deductions being available, depending on circumstances. However to reduce the occurrence of taxpayers dodging their full tax obligations, the tax law however has in place a set of rules.
The PSI rules The measure comes under the banner of “personal services income” (PSI), which broadly defines such income as “a reward for an individual’s personal efforts or skills”. This excludes the sale of goods, as with a retailer or manufacturer, or only using a physical asset (like a truck or tractor) to generate that income.
As PSI is income produced mainly from personal skills or efforts, you can derive PSI in a wide variety of industries, trades or professions. However, some common examples include construction workers (such as tradies), financial professionals, information technology consultants, engineers and medical practitioners.
The PSI rules operate as an integrity provision to prevent individuals using an entity to direct their income to a lower taxed environment (such as a company) and to access a larger suite of general deductions.
So if, for example, your client’s business structure is assessed by the ATO to be contrived (an assessment that is based on a series of tests), then income their business earns will be treated as being earned by them as a contractor individually, and taxed at their personal rate rather than taxed to the business. Certain deductions are also denied as if your client is an individual deriving such income.
Therefore the tax issues that come with PSI are often misunderstood and can trap the unwary if the ATO’s auditors come calling.
The ATO’s PSI tool To make things easier, and to help with your client’s tax planning for the year ahead, the ATO has developed an online “decision tool” to help work out whether your client will, or has, earned PSI, and if the PSI rules will apply to that income. Access the tool here.
For your client to answer the questions in the PSI decision tool, they may need to provide you with:
details of contracts or written agreements with their business’s customers during the income yearinvoices from work performed during the income yearrecords of payments to any employees or subcontractors.
What this tool provides After answering a series of questions, the tool will provide a report that gives:
guidance on whether the income is PSI and if the PSI rules applya summary of the responses that were providedinformation about what the result means for the relevant tax obligations.
Once done you can save or print a copy of the report, which can be kept with other tax records. The ATO says that in most cases a taxpayer will be able to rely on the result provided by the tool, but a more thorough outcome, depending on the circumstances, could be arrived at by applying for a “personal services business (PSB) determination”. (See more details here.)
# [personal services income], [psi], [tax], [tax time]
Comments