The Australian Taxation Office (ATO) has finalised its compliance approach to the interaction between Personal Services Income (PSI) rules and the general anti-avoidance provisions in Part IVA of the Income Tax Assessment Act 1936. This guidance is particularly relevant for entities earning PSI, including those that qualify as a personal services business (PSB).
Part IVA Can Apply Regardless of PSB Status:
- Even if an entity self-assesses or is determined to be a PSB, Part IVA may still apply to income distributions, especially where arrangements are designed to obtain a tax benefit.
Focus on Income Splitting and Retention of Profits:
- The ATO’s guidance targets arrangements where PSI is split among associates (such as family members) or profits are retained in the entity, resulting in a lower overall tax rate.
High-risk arrangements include:
- Distributions to associates that exceed the value of services they provide.
- Retention of profits in a company or trust without a clear commercial purpose, especially when used to defer or reduce tax.
Audit and Compliance Risk:
- The ATO will apply compliance resources to review arrangements deemed higher risk, such as those involving disproportionate income splitting or unjustified profit retention
- Genuine commercial arrangements, where remuneration matches the value of services provided, are considered low risk.
Best Practice Recommendation:
- Entities should review current PSI arrangements to ensure distributions and retained profits are commercially justified and properly documented.
- Good record keeping and clear rationale for income allocation are essential to support compliance in the event of an audit.
Conclusion
With the ATO’s finalised guidance, it is critical for entities earning PSI—even those classified as PSBs—to assess their income distribution and profit retention practices. Arrangements that lack commercial substance or disproportionately benefit associates may attract ATO scrutiny under Part IVA. Regular review and documentation of these arrangements are recommended to mitigate audit risk and ensure compliance with tax law.
Please discuss with us urgently if you feel you are at risk with these provisions.