Personal Services Income

Personal Services Income

This question is in everyone's tax return, and you have to answer it… correctly!

“Did you receive any personal services income?” 

People often get stumped by this one, but the main thing to remember is that it’s not necessarily a good or bad thing, you just have to answer it right - and we’re going to show you how. 

This blog is going to explain:

• What it is
• How to answer the personal services questions in your tax return (the tests!)
• Explain what happens to deductions if you ‘pass’ or ‘fail’ the tests (again, not necessarily a good or bad thing either way)
• Give you 3 case studies 

What is Personal Services Income?

Personal Services Income (‘PSI’) is  income produced from your personal efforts and skills as  an individual. 

Let’s say you’re a photographer. The expertise and efforts utilsed for the photo shoots would be considered PSI. The photo albums you sell, not so much. If you are a performer, then monies earned for preparation and performances would be Personal Services Income. 

What is not PSI then? 

As long as someone’s not paying directly for the personal efforts and skills, then there’s absolutely no PSI - so selling clothes online is not PSI. Income generated from the use of assets is also not PSI. For example a truck driver transporting goods is not earning PSI. Customers pay mainly for the equipment, not the service provided by the driver.

Here’s a tricky one! 

If you work for a company as an accountant, that service is mainly produced by the structure (the Company), not the individual himself, so no PSI. BUT if the professional is going to do it solely by himself or as a sole trader, then there is PSI. But you can leave the accounting issues to us! 

Heads up! This applies to sole traders, and other entities too. If you're producing PSI through a partnership, company, or trust and the PSI rules do apply, the income will be treated as your individual income for tax purposes. 

How to answer the questions in the tax return

We care about this because the ATO applies different rules to your tax return depending on your PSI status and how you answer a few extra questions. 

Step 1: Have you received personal services income?

One important thing to take note of for the PSI determination is the checking of the terms and conditions of the contract, as well as the invoices of the work done. Let’s say, upon going through the contract and invoices, you noticed that the labour, skills, and expertise you have done is a percentage of more than 50%. Therefore the contract is a PSI. We look at this on a transactional basis and overall basis.

• If you answer Yes, time to do tests (next steps below) to figure out what we can deduct. 

• If you answer No, then there is no PSI. 

Step 2: Results test

To pass the results test, you need to meet all three conditions for at least 75% of the PSI for the income year:

• Paid to produce a specific result
• Required to provide the equipment or tools
• Required to fix mistakes at your own costs

• Pass: If yes to all 3, for 75%, then you are all done - there is PSI but the PSI rules won’t apply to you. 
• Fail: If no, try the next test...

Step 3: The 80% rule

This step is about your PSI client base and how much of your PSI comes from one client. Does 80% or more of your PSI come from one client (or their associates)? 

• Pass: If no… then you may have received PSI but found that the rules do not apply, so there are no changes to the deductions you can claim against the income.
  
  
• Fail: If yes… Step 4: The remaining tests. If you received 80% or more from a single source, and if you believe you will pass the employment test or business premises test or unusual circumstances stopped you from passing any of the test, apply for a Personal services business determination (email us for help!).

Here’s what the questions might look like in your tax return...

What happens if you pass the tests?

You’ll need to answer some questions in the tax return but the good news is the deductions claimed shouldn’t be affected by the fact you have some PSI. 

What happens if you fail the tests?

As a sole trader, there are various tax return obligations needed to be met when the PSI rules apply and there are some deductions that won’t be claimed against your PSI.

Examples of deductions that can’t be claimed against PSI are:

• rent, mortgage interest, rates or land tax for your home (or your associate's home)
• payments to your spouse, or other associate, for support work such as secretarial duties
• expenses that you would generally not be able to deduct as an employee.

How to include this information in your tax return

If we are your accountant, we will look after this for you. But just in case you want to get your head wrapped around it, here is some information. What gets reported, and how, actually depends whether you’re a sole trader, partnership, trust, or a company.

Individuals (Sole traders)

For Sole Traders, you can report any PSI you've received in your individual tax return. This can be done through myTax or via a registered tax agent - The Real Thiel.

Personal services income section needs to be completed when lodging your own tax. You may also need to fill in the Business payment summaries section.

Company tax return

For companies, any PSI received by the company should be filled in the company tax return. This can get tricky and we recommend having a professional do it for you. 

There are various parts of the return that should be completed when lodging your company tax return:

• item 6 - Calculation of total profit or loss and include all personal services income and related expenses
• item 14 - Personal services income (if you answer no at N for this item, you are finished with this question).

You will also need to account for any net PSI or PSI loss by completing reconciliation labels.

Partnership or Trust tax return

For Partnerships or Trust, again we recommend getting a professional to help with this. Any PSI received by the relevant entity on either a Partnership tax return or a Trust tax return should be filled in.

There are various items in the tax return that need to be completed for a Partnership or trust tax return:

• Item 5 - Business income and expenses, and include all personal services income and related expenses
• Item 30 - Personal services income (if you answer no at N for this item, you are finished with this question).

These items are the same for both partnership and trust tax returns. To account for any net PSI or PSI loss, you would also need to complete reconciliation labels, like what you did for a company tax return.

CASE STUDY

Case 1: Photographer. 

Step 1: Have you received personal services income?

Of course, the client is paying for your fabulous efforts and skills. It’s also good to check the agreement between two parties. Check the contract - if the income received was at least or more than 50% done through your expertise and efforts. 

Assuming the answer is YES, proceed with Step 2. 

Step 2: Results test

As a Photographer, you would need to pass all 3 conditions or at least 75% of the PSI for the income year:

• Are you paid to produce a specific result? 

Let’s say you have a client and you’re tasked to do a photo shoot for the client’s wedding. In this example, you are indeed paid to produce a specific result which is to do a photo shoot for the client’s wedding.

• Required to provide the equipment or tools?

In the contract that you signed as a photographer, it is stated there that you are required to bring your own equipment for the photo shoot. So yes, proceed with the third results test.

• Required to fix mistakes at your own cost.

You checked the contract and indeed, you are the one liable if there would be any mistakes.

Step 3: The 80% rule

This is done when you don’t pass the results test. Since in our previous example the photographer did pass the test, the PSI rules don’t apply. Any PSI amounts still need to be declared at the relevant labels on the tax return.

Let’s say this time you don’t pass the results test. That’s when we can proceed with step 3. For this step you need to know the amount of PSI that comes from each client, including their associates, in an income year. For a wedding photographer it is unlikely that 80% or more comes from one client - unless they had a crazy extravagant wedding! 

Step 4: The remaining tests

Step 4 is done if less than 80% of the PSI comes from one client. 

For this example, let’s assume less than 80% of the PSI comes from just one client of the Photographer (maybe it is your first year in business or you got a big corporate shoot). 

With that, there are three remaining tests to work through:

• Unrelated clients test - PSI must be from two or more clients who are not connected or related to one another. Take note, you do not pass the unrelated clients test if you work for a labour hire firm. Another test for this is if you are making offers to the public. According to ATO, this includes maintaining a website, applying for competitive public tenders, or advertising in a newspaper, industry journal or business directory.
• Employment test - For this test, at least 20% (based on market value) of the principal work must be performed by other employees or contractors. Another requisite is you must employ one or more apprentices for at least six months of the income year. 
• Business premises test - Last test for this is the Business premises test. To pass this test, all of the following conditions must be met.

1. Used mainly for personal services work.
2. Used exclusively by you.
3. Physically separate from any premises you use for private purposes.
4. Physically separate from your clients' premises.

Clear as mud?

According to ATO, PSI rules will not affect the following:

• the contractual relationships between you and your clients or customers – for example, you do not become an employee or stop being a contractor
• your entitlement to an Australian Business Number (ABN) or registration for Goods and Services Tax (GST)
• whether you are still considered to be running a business

Case 2: event hire company (people hire decorations from you).

Step 1: Have you received personal services income?

Since it’s the decorations that your customers/clients actually need, the  income from the service is not a personal services income. 

Since step 1 is already a “no”, there is no PSI and therefore PSI rules do not apply. Any income and expenses from business would still be filled in the business section of the tax return.

Case 3: Online store selling accessories

Step 1: Have you received personal services income?

Same deal! The income from the service is not a personal services income. 

Since step 1 is already a “no”, there is no PSI and therefore PSI rules do not apply. Any income and expenses from business would still be filled in the business section of the tax return.

Of course we are here to help and if we are doing your taxes for you then we will answer these all for you, with your guidance.