FAQ: What Is A Personal Services Business And Is My Business One?

After navigating your way through our FAQ: What is personal services income and do I earn any? blog the next step is to determine if your business is a personal services business (or a PSB). The good news is the restrictions around a PSB are not as tight as personal services income (PSI). But first, what is a PSB?

A personal services business is where more than 50% of the amount you received from a contract was for your labour, skills or expertise (as opposed to materials and supplies to complete the contract) AND you answer YES to any of the PSI tests. The tests being:

1. The results test, where you are:

• Paid to produce a specific result

• Required to provide the equipment or tools

• Required to have mistakes fixed at your own expense.

2. The 80% rule where no more than 80% of your income can be earned from one client (or their associate).

3. The remaining tests, where you must pass at least one, being:

• Unrelated clients test

• Employment test

• Business premises test

A fuller explanation of these tests is contained in our blog FAQ: What is personal services income and do I earn any?

Some common examples of industries where you might find a PSB:

• Financial professionals

• Lawyers

• Information technology consultants

• Engineers

• Medical practitioners

• Construction workers

What does it mean to have a personal services business?

Unlike PSI, a PSB is entitled to the full range of tax deductions that any other business is entitled to. This includes paying an arm’s length salary to a spouse or associate for administrative tasks and deductions for rent, mortgage interest and rates etc if you conduct your business from home. Our blog Can I claim that? A guide to tax deductible business costs provides further information on what businesses can claim as tax deductions.

However, just like PSI the income must be attributed to the person earning the income. The attribution rules work so as to include any profit remaining in your company to you or to prevent any trust distribution going to anyone else but you. Your business is essentially required to pay any profits out as a wage/directors fee or bonus to you. You therefore don’t get any benefit by being able to retain profits inside a company at a lower tax rate or being able to distribute income to family members in a trust.

An example

Sonia starts her own accounting firm, which is traded through a company. At first, she is working from home with a handful of clients. As the value of any engagement Sonia is performing is more than 50% for her labour, skills and expertise, she is earning PSI. Sonia now needs to consider if the other PSI tests apply. She passes the results test as and therefore is conducting a personal services business. Sonia can deduct a portion of her mortgage interest and rates that relates to running her home office. She could also pay a family member to do some administration work. However, she would need to include all business income in her personal tax return.

Sonia’s firm grows, she moves to a co-working space, and she now employs 2 people part-time to do accounting and tax work (principal work). The market value of this work is more than 20% of all of the work done by the firm. Sonia can now retain profit in the company and pay dividends to company shareholders, if she chooses. Sonia can no longer claim a deduction for mortgage interest and rates as that is not her principal place of business. She can however claim the home office expenses as an employee.

One final point. When Sonia sells her home, she will need to include a percentage of the capital gain attributed to her home office in her return as she has used her home for income producing purposes.

If you would like specific advice tailored to your business and circumstances, Accounting Heart offers affordable service packages where you can work with Sonia one-on-one to help you get your business where you want it to be. Book your FREE Discovery Call to find out more.

Disclaimer: This is general information only and is not advice of any sort. No warranty or representation is provided by Accounting Heart Pty Ltd as to the accuracy, currency or completeness of the information contained in this blog. Readers of this blog should not act or refrain from acting in reliance upon any information contained herein and must always obtain appropriate taxation and / or other advice as may be appropriate having regard to their particular circumstances.