The tax treatment of PSI is often misunderstood. Let’s bust some myths.
As a business advisor who works closely with medical professionals, I’m privy to some common misconceptions about the impact of the personal services income (PSI) which I will now attempt to clear up.
It is important to note that these rules are not new, but we are seeing the rules being ignored. If you’ve never heard about them before, it might be high time to ask – or even get a second opinion!
What is personal services income?
As a medical professional, the income you earn is deemed as PSI and is classed as income derived by an individual as the result of his or her personal work or exertion. These services may be carried out by the individual as a sole trader or sometimes through a trust, partnership or company structure.
The tax treatment of income from personal exertion falls under the personal services income (PSI) attribution regime. This legislation effectively treats individuals earning PSI as a quasi-employee. This involves looking into any structures, such as a medical company or trust, that may be in place to attribute the income generated back to the individual who earned that income. It is important to note that the PSI rules apply to all individuals and are not applied exclusively to the medical profession.
For example, say Dr Chan is earning $400,000 in personal income from charging his patients. After business expenses, this income must, under law, be included in Dr Chan’s personal income tax return in the year that it has been earned. He does NOT have the option to:
- leave significant amounts of income in a medical company to be taxed at the company tax rate, or
- split the income with other family members to reduce his tax.
If Dr Chan were to alienate some of this income from himself, this would be considered tax avoidance and would incur substantial penalties from the Australian Taxation Office.
When considering PSI, it needs to be clear that the type of income covered is only personally generated income; it does not include income generated by a medical practice from service fees or income from investments which may be held in another structure, such as a trust. The ATO has recently advised there will be a focus on this activity in the coming financial year.
Here, we explain some of the facts and the fiction of personal services income.
- I can split income I make as a doctor because I have a company or trust
False.
The ATO will look through any structure that is in place to see how the income is derived. This is the key focus of the PSI legislation. If income is derived by the medical practitioner as a result of his or her personal work or exertion, this income is PSI and must be attributed to the individual performing the work.
It is sometimes mistakenly assumed that if you meet the requirements to be classified as what is called a personal services business (PSB), you can split your income between yourself and your family members. This is not the case. Where personal exertion income is split inappropriately with associates, the ATO is likely to consider this tax avoidance and ignore any tax benefits obtained.
- I work at a number of practices and therefore, 80% of my income does not come from the one source, so I can split my income
False.
This income is still derived as a result of his or her personal work or exertion as a medical practitioner. This income remains income which has been generated from personal services and must be attributed to the individual performing the work.
- The income I generate means I am a personal services business, so I can pay my spouse a wage and superannuation
True – provided you are considered a personal services business (PSB) and your spouse or an associate provides services to you that are necessary for the generation of your income and you remunerate them at a market rate, these payments will be a tax deduction to you. If no work is performed, no payments can be made to them.
You may choose to maximise any superannuation contributions on behalf of your spouse (working in your business) up to the concessional cap, even if the superannuation contribution exceeds the value of the work performed. The current concessional cap in relation to the 2022 financial year is $27,500. This position is supported by Tax Determination 2005/29 and Ryan’s case.
- I use a medical company because it provides me with asset protection from my patients
False.
Sometimes sole traders are encouraged to operate through a company to take advantage of the additional legal protection and limited liability offered under a corporate structure.
In our experience, these protections are not all that valuable to a professional, such as a medical practitioner, where any failing is likely to be at a professional level. In these cases, the limitation of liability offered by a company will not offer any protection to the professional person. Accordingly, it is vital that a medical practitioner maintains an appropriate level of professional indemnity insurance, regardless of the trading structure they have in place.
In relation to professional failings (such as medical malpractice) it will be largely irrelevant, from an asset protection perspective, if the medical practitioner is trading as a sole trader, or through a different entity such as a company.
As a final note: when speaking to your advisor, it’s unhelpful to talk about things your practitioner friends or colleagues are doing, because these don’t take into account your own personal risk profile or potential for an ATO audit.
Julie O’Reilly is director, business advisory at William Buck; please visit William Buck’s health industry page
