PSI Income Rules
Income that is produced mainly from your skills and efforts as an individual are subject to PSI rules when looking at what can be claimed and at what stage we can look at the benefits of becoming a company.
Deductions that can’t be claimed against PSI include the following;
Deductions that are allowable when receiving PSI can only be claimed if and expense is paid or incurred in gaining or producing assessable income and cannot be domestic or a private expense.
Examples of allowable deductions include:
gaining work – for example, advertising, tendering and quoting for work
registration and licensing fees
insuring against loss of income, earning capacity or liability for acts or omissions in the course of earning income
public liability and professional indemnity insurance
salary or wages and other expenses in engaging an arm's length employee or contractor (not an associate)
reasonable amounts paid to an associate for principal work
complying with workers compensation law
super contributions for the benefit of the individual or an arm's length employee (not an associate)
running expenses for a home office – for example, heating and lighting (but not rent, mortgage interest, rates or land taxes)
depreciation of income-producing assets - you may qualify for simplified depreciation rules for small business
bank and other account keeping fees and charges
tax-related expenses, such as the cost of preparing and lodging tax returns or activity statements
meeting obligations under GST.
Additionally, if the PSI is earned through a company, partnership or trust, the business is entitled to claim entity maintenance deductions. These are:
fees or charges associated with a bank, credit union or other financial institution account (but not including interest or interest-like amounts)
tax-related expenses (for example, preparing and lodging tax returns and activity statements)
any expense incurred for preparing or lodging a document under Corporations Law, except where the payment is made to an associate
statutory fees.
This is not a complete list, as what can be claimed depends on how the income is earned.
What income is not PSI
Supply and sale of goods
Supply and use of income-producing assets
Where the entity has a number of arm’s length employees and generates profit through the structure of the business
Essentially you could structure the business to be a company at any stage if you wanted asset protection or perpetuality, however the PSI rules will still apply and any retained earnings in the company would be taxed in your hands as an individual. A company or trust structure will involve more compliance which will result in more costs.
When the growth allows the business to meet the results test in relation to at least 75% of your PSI.
To meet this condition, you must produce a specific result or outcome before being entitled to be paid.
Generally, you are paid to produce a specific result when:
payment is made after contractual conditions have been fulfilled – for example, only on completion of each job or specific objectives (this can include receiving progress payments and deposits)
being paid an amount for an agreed number of completed items or activities – for example, a furniture upholstering business that is contracted to a furniture factory and paid a specified amount to complete 100 lounge suites.
Generally, you are not paid to produce a specific result if you are paid based on an hourly or daily rate for work you perform, regardless of whether you achieve a specific outcome or reach agreed objectives.
When changing the business structure you must also be aware of the general anti-avoidance rules may apply if you have entered into an arrangement where the main purpose is to obtain a tax benefit.