Personal Services Income (PSI) – 2
TAX WARNING – Multiple employees and ‘rule of thumb’ in IT 2639
In practical terms, it is difficult to demonstrate that income is generated from a business structure without employing several professional staff. For example, an individual practitioner with business premises, support staff and several clients is generally not considered to be operating a business structure if only one person is providing the professional services. It may, however, qualify as a PSB (refer to the discussion below). A ‘rule of thumb’ contained in IT 2639 provides that if there are at least as many non-principal practitioners in a practice as there are principal practitioners, it is accepted that the income is not PSI, on the basis that it is derived from the business structure. However, the ATO has advised that, although not specifically stated in IT 2639, non-principal practitioners must generate at least 50% of the income to satisfy the ‘rule of thumb’.
Note that the ATO has recently released a fact sheet (‘Assessing the risk: allocation of profits within professional firms’) which broadly provides guidance in relation to splitting the income of certain professionals, including in circumstances where the income in question is traditionally considered to be ‘income from a business structure’. Whilst a discussion in relation to this issue is beyond the scope of these notes, reference can be made to the fact sheet for further details. In any case, the fact sheet does not alter the position that ‘income from a business structure’ is not considered to be PSI (i.e., for disclosure purposes on the return).
Taxpayer is conducting a Personal Services Business (‘PSB’)
Where income is PSI but the taxpayer is deemed to be conducting a PSB, the special deductibility rules contained in Division 85 and 86 of Part 2-42 will not apply. Basically, a taxpayer is conducting a PSB if they meet one of the following requirements:
- The taxpayer satisfies the results test.
- Less than 80% of the taxpayer’s PSI in a year of income is derived from one source and the taxpayer satisfies one of the following tests:
- The unrelated clients test;
- The employment test; or
- The business premises test, or
- The taxpayer has received a PSB determination (‘PSBD’) from the ATO.
Each of these tests is discussed in further detail below.
(a) The results test
The results test is passed if the following applies to at least 75% of a taxpayer’s PSI:
(i) The income is for producing a result;
(ii) The individual is required to supply the plant and equipment, or tools of trade, needed to perform the work from which the individual produces the result; and
(iii) The individual is (or would be) liable for the cost of rectifying any defect in the work. (refer to S.87-18(3)).