What is Personal Services Income? A Guide for Medical and Dental Professionals

What is Personal Services Income?

Personal services income (PSI) arises when more than 50% of the income you’ve received from any given contract compensates you for your personal effort or skills. This can be contrasted with income generated through the use of assets or the sale of goods.

As such, the income generated by most medical and dental professionals is classified as PSI.

What are the PSI Rules for Medical and Dental Professionals?

Only individuals can earn PSI, either as a sole trader or through another business entity, like a company, partnership or trust. In this circumstance, the business entity is considered a personal services entity (PSE).

PSI rules are primarily designed to restrict individuals from using business structures, like trusts or companies, to minimise their tax obligations. Since PSI is directly linked to an individual taxpayer, those who receive it cannot establish a separate business entity to operate their business without attracting scrutiny from the ATO.

What are the Personal Services Business Tests?

The personal services business (PSB) tests are notoriously complex. In summary, they determine whether an individual PSI earner or PSE can identify as a PSB each year, If you are eligible to identify as a PSB, then the PSI rules will not apply to your income for the relevant income year, meaning you can use a separate investment structure to reduce the tax obligation on your income.

The Results Test

To meet the requirements of the results test, the below must be true for at least 75% of the PSI that you earn:

• You are paid to produce a specific result
• If applicable, you are required to provide tools or equipment to achieve this result
• You rectify any errors at your own cost

If you pass this test, you can self-assess as a PSB.

If you do not pass this test but you meet the requirements of the 80% rule, which stipulates that less than 80% of your PSI arises from any one client and their associates, and also pass any of the three other PSB tests outlined below, you can still self-assess as a PSB.

Other PSB tests

The Unrelated Clients Test

You must meet two conditions in any given income year to pass the unrelated clients test:

1. You received PSI from two or more unrelated clients.
2. There is a direct connection between the offer to the public and your engagement to perform the work.

If you pass this test and satisfy the requirements of the 80% rule, you can self-assess as a PSB.

The Employment Test

To pass the employment test in any given income year, your business must employ or contract others to help perform the work that generates your own PSI and must meet at least one of the conditions below:

1. 20% or more of the principal work undertaken is performed by others.

Or

2. You employ at least one apprentice for at least half of the income year.

If you pass this test and satisfy the requirements of the 80% rule, you can self-assess as a PSB.

The Business Premises Test

You must have maintained and used a business premises at all times during the relevant income year that meets all of the following criteria to pass the business premises test:

1. The premises is primarily used to gain or produce PSI.
2. It’s used by you alone.
3. It’s physically separated from your own private premises.
4. It’s physically separated from your clients’ own premises.

If you pass this test and satisfy the requirements of the 80% rule, you can self-assess as a PSB.

Applying for a PSB Determination

You can apply for a PSB determination, or PSBD, if you are unsure whether you meet the requirements for any of the PSB tests, if unusual circumstances have prevented you from passing one of the tests, or if you did meet the requirements of the unrelated clients test but failed to pass the 80% rule as a result of unusual circumstances.

Depending on their findings, the Commissioner of Taxation may grant you a PSBD notice that will make you exempt from the PSI rules for the relevant income year.

Final Thoughts

Because of the complexity of the PSB rules, it can be difficult to determine if you meet the criteria to self-assess as a PSB.

The impact of an error in this situation can be costly. For example, if you do meet the criteria but fail to self-assess as a PSB, you’re missing out on potential tax saving opportunities. On the other hand, if you incorrectly self-assess as a PSB and proceed on the basis that the PSI rules do not apply to your income, you may be in for a nasty surprise from the ATO.

At Smith Coffey, we specialise in providing tax advice to medical and dental professionals. Our expert tax advisors can help you understand the impact of the PSI rules and PSB tests on your income. We’ll then use this information to ensure you achieve the best possible tax position.

Ready to have an obligation-free chat with one of our expert advisers? Get in touch today.