On 11 March 2021, the Australian Taxation Office (ATO) released Draft Taxation Ruling TR 2021/D2 on the operation of personal services income (PSI) rules and the personal services business (PSB) tests. TR 2021/D2 combines and modernises Taxation Ruling TR 2001/7 (the meaning of PSI) and Taxation Ruling TR 2001/8 (what is a PSB) by taking into account several judicial decisions handed down since 2001.
PSI is income that is “mainly” a reward for an individual’s personal efforts or skills (or would mainly be such a reward if it was the income of the individual). Only individuals can have PSI. PSI can be earned directly by a sole trader or indirectly through an interposed personal services entity (PSE). Income from the supply and sale of goods is not PSI nor is income generated from the business structure of an entity.
The PSI rules ensure that PSI received by a PSE is attributed to the individual who performed the personal services. The rules also limit the deductions available to PSEs and to individuals who supply personal services but not through a PSE (sole traders). However, the PSI rules do not apply if the PSE conducts a PSB that meets at least one of four PSB tests or if they get a PSB Determination.
TR 2021/D2 sets out the ATO’s position, and includes 40 examples, on:
the meaning of PSI;
what is (and is not), PSI;
determining who is earning PSI;
the four PSB tests: the results, unrelated clients, employment, and business premises tests; and
the application of the anti-avoidance rules in Part IVA when there are factors in the ATO’s opinion that indicate that the dominant purpose of the arrangement is to obtain a tax benefit by diverting or splitting an individual’s PSI.
On this last point, the ATO states:
The general anti-avoidance provisions of Part IVA of the ITAA 1936 may still apply to cases where a PSB is being conducted and the PSI rules do not apply. The ATO will seek to apply Part IVA where there are factors indicating that the dominant purpose of the arrangement is to obtain a tax benefit by diverting or splitting an individual's PSI.
In deciding whether the PSB has engaged in income splitting in order to gain a tax benefit, the following considerations may be relevant:
whether the salary or wages paid to the test individual is commensurate with the skills exercised or services provided and with the income received by the interposed entity for those services
whether the interposed entity distributes income to associates and does not distribute any income to the test individual (that is, the employee) who provided the actual services, and
whether the salary or wages paid to associates by the sole trader or PSE is not commensurate with the skills exercised and services provided; and the income received by the sole trader or interposed entity is for services performed by the test individual.
This is not new in that in both TR 2001/7 and TR 2001/8 the ATO mentioned the possible application of Part IVA. However, the reference is more explicit in TR 2021/D2.
There is also a worked example (number 40) involving a computer systems analyst, who provides personal services through a family trust, which distributes income to the individual’s wife and three children, who are in the lowest marginal tax bracket. The ATO conclude that “a likely conclusion would be that the dominant purpose of the arrangement is income splitting to which Pt IVA applies”.
Whether the “dominant purpose” is as the ATO says, or is not, may one day be decided by a court. However, in the intervening period, whether you agree with the ATO view or not, you have been warned!
When finalised, TR 2021/D2 will apply to arrangements begun to be carried out the day after TR 2001/7 and TR 2001/8 are withdrawn.
To discuss or for further information, please contact:
Neil Brydges
Principal Lawyer | Accredited Specialist in Tax Law
M +61 407 821 157 | T +61 3 9611 0176
E nbrydges@sladen.com.au
Lucy Liang
Lawyer
T +61 9611 0131
E lliang@sladen.com.au
