Edited version of private ruling

Authorisation Number: 1011467368446

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Ruling

Subject: Personal services income - losses - averaging

Issue 1

Question 1

Is the income received from Company A personal services income?

Answer

Yes.

This ruling applies for the following period/s:

Year ending 30 June 2003 to period ending 30 June 2009

The scheme commences on:

1 July 2002

Issue 2

Question 1

Are you entitled to have the provisions of Division 405 of the Income Tax Assessment Act 1997 (ITAA 1997) applied to you for the year ended 30 June 2008?

Answer

No.

This ruling applies for the following period/s:

Year ending 30 June 2008

The scheme commences on:

1 July 2007

Issue 3

Question 1

Are you entitled to a deduction for any losses in developing the product?

Answer

No.

This ruling applies for the following period/s:

Year ending 30 June 2003 to period ending 30 June 2009

The scheme commences on:

1 July 2002

Relevant facts and circumstances

You have sought a ruling on whether income you earned from Company B is Personal services income and whether you can offset your income against losses incurred by company A. You also wish to determine if the income averaging provisions apply to you.

For several years you have been developing a product with a view to marketing it both in Australia and overseas. To date the process has cost you in excess of $200,000 of your own money. You have done it entirely on your own spare time, funded purely with your own personal money.

You now have currently X products manufactured but have found little interest in your product in Australia and will try to market it overseas.

You have committed every spare dollar you earned as a full time employee of Company B since commencing the project. You left your employer in the middle of 200X and used your entire redundancy package to finance tooling and production of the products.

You have been incurring substantial non commercial losses due to the development of the product.

You state that you will be only able to claim the losses from income received through the company from the sale of products but have not been able to do that as yet.

After you left Company B they required the services of someone with the knowledge of their business to work on a specific project. You accepted their offer of work on a contract basis.

Since that time you have now worked on a contract basis for Company B on a number of different occasions (each time on a different project) each time invoicing them on a weekly basis through your company structure. Company B was the only company for which you were working and hence supplied more than X% of your income, automatically deeming it to be personal services income. You did not seek other avenues of work.

Your income from Company B is used to fund the development and ongoing marketing of the product.

You feel it is unfair that you are unable to write off losses incurred by your company against your income from Company B. You feel the two activities are inextricably linked.

You are also seeking to average your income over times of paid employment and unpaid employment.

During your relevant contract Company B required you to finish the bulk of the required task by the end of the 200Y calendar year. You took charge of the project in early 200Y and the initial term was extended in order to achieve the desired outcome. You ended up working a number of hours a day, seven days a week towards the end of 200Y. Accordingly, you ended up with a much higher than normal income in the latter half of 200Y.

Since the termination of that particular contract you have only worked for a number of months and have been unemployed ever since.

You state that you are neither a primary producer nor a member of the performing arts community.

Issue 1 Question 1

Detailed reasoning

The measure contained in Divisions 84 to 87 of the ITAA 97 only applies if a taxpayer has income that is personal services income (of an individual). The definition of personal services income is contained in subsection 84-5(1) of the ITAA 97 which states:

Your ordinary income or statutory income, or the ordinary income or statutory income of any other entity, is your personal services income if the income is mainly a reward for your personal efforts or skills (or would mainly be such a reward if it was your income).

The definition refers to income (including ordinary income or statutory income of any entity) that is mainly a reward for an individual's personal efforts or skills. Subsection 84-5(3) of the ITAA 97 extends the definition of personal services income to income that is for doing work or for producing a result. The result must be produced from the individual's personal efforts or skills.

You stated that the personal services work was undertaken by you for Company B, was invoiced by you through your company structure and more than 80% of your personal income comes from one client.

The fact that the income is payable under a contract does not stop the income being mainly a reward for an individual's personal efforts or skills (subsection 84-5(4) of the ITAA 97).

Based on the information provided, the Commissioner is satisfied that your income from Company B and invoiced to Company A is mainly a reward for your personal efforts or skills and is therefore personal services income.

Issue 2 Question 1

Detailed reasoning

Does Income Averaging apply to you?

Division 405 of the Income Tax Assessment Act 1997 (ITAA 1997) contains the provisions relating to income averaging for special professionals that are applicable from the 1999 and later income years.

Subsection 405-15(1) of the ITAA 1997 provides that special rates of tax apply when:

- the taxpayer is an Australian resident

- the taxpayer's taxable professional income is more than $2,500 for the current year or the preceding year and

- the taxpayer's taxable professional income for the current year exceeds their average taxable professional income for the current year.

Special professional, performing artist, production associate and sportsperson is defined in section 405-25 of the ITAA 1997.

The work undertaken for Company B on a contract basis consisted of overseeing the change of processes because of your knowledge of their business.

It is considered that your activities do not fall within the definition of special professional and therefore the income averaging provisions do not apply to you.

Issue 3 Question 1

Detailed reasoning

Section 4-15 of the ITAA 1997 provides that the taxable income of a company is calculated in the same way as an individual, from the assessable income are deducted all ordinary business deductions, depreciation and any relevant non-business deductions. If the deductions exceed the assessable income, you may have a tax loss which you may be able to deduct in a later income year.

Sections 36-1 to 36-45 of the ITAA 1997 provide that a company is entitled to carry forward losses incurred in one income year for deduction against its assessable income in subsequent years subject to certain limitations.

A company is only entitled to distribute income or make a return of capital to its shareholders but not losses.

Accordingly, any losses incurred in Company A can only be offset against assessable income derived by the company in subsequent years.

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