Personal services income
Broadly, the personal services income (PSI) rules attribute income derived by an interposed entity to the individual providing services to the entity. This is achieved by “forcing” individuals to include the income generated by their personal skill or efforts in their personal tax returns. The deductions of a taxpayer who receives PSI are, generally, limited to the amount that they would be entitled to deduct if they had received the income as an employee.
However, the PSI rules do not apply to individuals or interposed entities if one of the required personal services business (PSB) tests (results test, unrelated clients test, employment test and business premises test) is satisfied. The primary test to be applied is the results test. If this test is met, there is no further requirement to self-assess against the other tests and the PSI rules do not apply. Taxation Ruling TR 2001/8 provides the ATO’s interpretation of the results test. The ruling states that the results test is based on the traditional criteria for distinguishing independent contractors from employees.
In addition, the Commissioner has the power to grant a determination, which has the effect of exempting an individual or a personal services entity from the PSI regime. Generally, a determination will be granted if unusual circumstances existed that prevented the business from satisfying the tests, or if the business would have had, but for the unusual circumstances, two or more unrelated clients in the current income year.
The ATO considers that the term "unusual circumstances" refers to exceptional circumstances that are temporary, with a likelihood that the usual circumstances will resume in the short term: Taxation Ruling TR 2001/8.
The ATO has released a personal services business self-assessment checklist for taxpayers: www.ato.gov.au/businesses/content.aspx?doc=/content/14895.htm.
- NOTE: If a taxpayer fails the results test and the 80% rule in an income year, the taxpayer is not permitted to self-assess against the remaining tests. The PSI rules will apply unless a PSB determination is obtained from the ATO.
General anti-avoidance and PSB
It is a common misconception that income earned by a PSB is income from a business structure. The income derived by a PSB is still categorised as PSI for income tax purposes if it is income that is mainly a reward for an individual’s personal efforts or skills. Therefore, the income (as distinct from income from a business structure) that is derived by the PSB may be subject to the application of Pt IVA, if, eg, the income is split with an associated person or associated entity, or the income is retained in a company and taxed at the lower company tax rate.
However, remuneration paid to an associate (or service trust) for bona fide services related to the earning of PSI will not attract the application of Pt IVA if the amount is reasonable.
The ATO has stated that Pt IVA will not apply in the following situations:
| The PSB is conducted through: | Situation |
| a company | There is no income splitting and no retention of profits in the company. |
| If there is a bona fide attempt to break even, a relatively small amount of taxable income may be returned by the company, provided that income is distributed to the individual by way of a franked dividend in the following year. | |
| a trust | If the trustee is a corporate trustee, the situations are the same as for a company. |
| a partnership |
If partnership income results from the services of employees or the use of income-producing assets. |
A partnership with a spouse will not attract the operation of Pt IVA if it is a genuine partnership.
