If you earn “Personal Services Income”, and are not considered by the ATO, to be a “personal services business”, then you will be severely limited by the tax deductions that you can claim…
Sole-Traders This means that allowable deductions in your tax return will be largely limited to those deductions that you could claim as an employee e.g.: you will be unable to claim home to office travel. In addition, you will be unable to claim tax deductions for wages and superannuation paid to associated persons or entities (e.g. Spouse’s wage for bookkeeping). Furthermore, You will be unable to claim tax deductions for costs such as rates, mortgage interest, land tax.
Companies In addition to a limitation on allowable deductions, the income will be attributed to the individual in their personal tax return at the marginal rate of tax, which will generally much higher than the flat 30% tax rate paid by the Company.
I am a sole-trader / Company director of a business that provides a service. Do I pass the rules to be classed as a personal services business?
Work through the following steps to determine whether your business is deemed as a ‘personal services business’ by the ATO:
(1) Do you receive income that is a reward or effort for you skill? (As opposed to income that is generated from supplying a good / service).
YES – go to next question
NO – you are not affected by personal services legislation
(2) Results Test
> Under your contract/s / arrangement/s, will you only receive payment after producing a contracted result? (E.g. a builder building a house). Note- if you are paid on a regular / hourly basis for the services that you provide, it is highly unlikely that you will pass this test.
> Are you required to provide the tools necessary to do your job?
>Are you liable to rectify defects in your work? If you are entitled to invoice your payer for the hours you spend in rectifying any defects in your work, you will not pass this third condition of the results test.
For at least 75% of the personal services income that you earn, can you answer YES to the above 3 questions?
YES – You are not affected by personal services legislation.
NO – Go to Step 3.
(3) The 80 % Rule
> Does 80% or more of the income that your business earns come from 1 client?
YES – you are affected by PSI legislation and may be affected by the limitations outlined above. You may apply to the ATO for a Personal Services Business determination where unusual circumstances prevent you from meeting one of the above tests.
No – Go to step 4. You are allowed to assess your business against 3 additional tests (of which you must pass 1).
(4) Test 1: Is your income derived from 1 or more unrelated clients? The personal services work must have been obtained as a direct result of making offers to the public (for example, by advertising or word of mouth). Do not count clients obtained through a labour hire firm or placement agency. For example, if your business receives work from an agency – all clients obtained through this agency are to be counted as 1 client for the purposes of this test.
Test 2: *Do employees / contractors help with at least 20% of the Main business activity? (I.e. not help with bookkeeping / admin). OR *Have you had any apprentices help you earn personal services income for at least half the self-assessment year?
Test 3: Business Premises Test:At all times in the income year were your business premises:
> owned or leased by you?
> used for personal services work more than 50% of the time?
> used exclusively by you?
> physically separate from your private residence?
> physically separate from the business address of your clients, or their associates?
If you answered YES to any of the above questions, you are a personal services business and are not affected by PSI Legislation.
If you answered NO to all of the above questions you are affected by the PSI legislation. If you are unsure if your business is a Personal Services Business, don’t hesitate to contact Freshwater Taxation.