Edited version of private ruling

Authorisation Number: 1011773568169

This edited version of your ruling will be published in the public Register of private binding rulings after 28 days from the issue date of the ruling. The attached private rulings fact sheet has more information.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns.

Ruling

Subject: deductibility of a taxable loss from Personal Services Income

Question 1

If the personal services entity incurs a taxable loss in the 2011 income year as a result of superannuation contributions made on behalf of the taxpayer as a personal services provider, will the taxpayer be able to claim a deduction for the loss in his personal 2011 income tax return under the attribution rules of the Personal Services Income provisions?

Advice/Answers

Yes

This ruling applies for the following period:

Financial year ended 30 June 2011

Relevant facts

The taxpayer is the director and shareholder of the personal services entity.

The personal services entity derived income in respect of the personal services of the taxpayer during the 2011 income year.

It is claimed that the taxpayer does not satisfy any of the required PSI tests and therefore PSI rules apply to the income they derive through the personal services entity. Accordingly, the personal services entity has promptly paid its income to the taxpayer during the 2011 income year to date.

The personal services entity has complied with its superannuation guarantee charge obligations in respect of the wages paid to the taxpayer.

The taxpayer ceased to derive personal services income through the personal services entity during the financial ended 30 June 2011 and does not expect to derive any further personal services income through the personal services entity before then. The personal services entity has no other source of revenue.

Despite the lack of income, the taxpayer wishes the personal services entity to make further employer superannuation contributions on their behalf prior to 30 June 2011.

The contributions will be funded by a loan from the taxpayer to the personal services entity. If such contributions are made, the next taxable position for the personal services entity for the 2011 income year will be a loss of approximately equivalent to the superannuation contributions to be made.

Assuming the ensuing loss is attributable to the taxpayer, the attribution recorded in the accounts of the personal services entity will serve to repay the loan made by the taxpayer.

Assumptions

That the personal services entity is not conducting a Personal Services Business.

That the personal services entity is deriving income from the taxpayer for the purposes of the personal services income attribution rules.

Relevant legislative provisions

Part 2-42 of the Income Tax Assessment Act 1997

Subsection 84-5(1) of the Income Tax Assessment Act 1997

Section 86-1 of the Income Tax Assessment Act 1997

Section 86-15 of the Income Tax Assessment Act 1997

Section 86-20 of the Income Tax Assessment Act 1997

Section 86-27 of the Income Tax Assessment Act 1997

Section 86-60 of the Income Tax Assessment Act 1997

Section 86-75 of the Income Tax Assessment Act 1997

Reasons for decision

Summary

The taxpayer can claim the deduction of the tax loss incurred by the personal services entity in his personal tax return.

Detailed reasoning

Personal Services Income

Part 2-42 of the Income Tax Assessment Act 1997 (ITAA 1997) applies when an individual has personal services income. Broadly, Part 2-42 ensures that the personal services income is included in the assessable income of the individual, regardless of whether a company, partnership or trust has derived that income. The provisions also limit the deductions to which the individual or entity are entitled.

The definition of personal services income is contained in subsection 84-5(1) of the ITAA 1997 which provides that:

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).

Section 86-1 of the ITAA 1997 provides that income from the rendering of your personal services is treated as your assessable income if it is the income of another entity and is not promptly paid to you as salary. However, income is not attributed if the other entity is conducting a personal services business. The entity will be taken to be conducting a personal services business, if at least one of the four statutory tests is satisfied.

In the current circumstances the personal services entity has derived income in respect of the personal services of the taxpayer. It has been stated that none of the four statutory personal services income tests are satisfied and therefore the taxpayer is subject to the attribution rules.

Attribution of Personal Services Income

As stated, where an entity has income that constitutes personal services income of an individual, the amount of the income after certain reductions is included in the assessable income of the individual. Therefore, any personal services income derived by the personal services entity is attributable to the taxpayer as their assessable income. This is referred to as their net personal service income.

Attribution will not occur where the personal services entity:

· Has income from conducting a personal services business and the relevant income is from conducting that personal services business (subsection 86-15(3));

· Pays the personal services income promptly to the individual as salary or wages (subsection 86-15(4)); or

· Is not assessable on the personal services income of the personal services entity under other provisions in the tax law (subsection 86-15(5)).

The amount attributed to the individual under subsection 86-15(1) of the ITAA 1997 still remains income or profits of the personal services entity. In order to prevent double taxation of the personal services entity, section 86-30 provides that ordinary income or statutory income of a personal services entity is neither assessable income nor exempt income of the entity, to the extent that it is personal services income included in the income of an individual under subsection 86-15(1) (Taxation Ruling TR 2003/6).

Therefore, the personal services entity would record the amount paid to the taxpayer in their tax return but the income would be considered non-assessable non-exempt income and the entity will not be liable to tax on that income.

Exception: amounts promptly paid as salary or wages

An exception to the attribution of personal service income are with respect to amounts paid by way of salary or wages to the relevant individual before the end of the 14th day after the PAYG payment period (section 86-15(4) of the ITAA 1997). Amounts paid promptly as salary or wages are excluded from the personal services entity's income which is attributed to an individual under section 86-15(1) of the ITAA 1997. Such amounts will be allowable as a deduction to the personal services entity and will be included in the relevant individual's assessable income.

As it is stated that the personal services entity derives its income from the personal services of the taxpayer and that the personal services income attribution rules still apply, the income is not considered to be paid as salary or wages meaning that the exception does not apply.

Deduction entitlements of personal services entities

Section 86-20 of the ITAA 1997allows the amount attributed under Section 86-15 of the ITAA 1997 to be reduced by the deductions to which the entity is entitled. This is outlined in the following method statement in Subsection 86-20(2) of the ITAA 1997:

Step 1 - Work out the amount of any deductions (other than entity maintenance deductions or deductions for amounts of salary or wages paid) to which the entity is entitled that relate to the individuals personal services income.

Step 2 - Work out the amount of the entity maintenance deductions to which the entity is entitled.

Step 3 - Work out the entity's assessable income, disregarding the individual's personal services income or the personal services income of anyone else.

Step 4 - Step 2 less step 3. That is, subtract from the entity maintenance deductions the non-personal services income first.

Step 5 - If the amount under step 4 is greater than zero, the amount of the deduction against the personal services income is the sum of the amounts under steps 1 and 4.

Step 6 - If the amount under step 4 is equal to or less than zero, the amount of the deduction against the personal services income is the amount under step 1.

Under section 86-60 of the ITAA 1997, for an outgoing to be deductible to the personal services entity the outgoing must first be an allowable deduction under another provision in the Act. In addition, a deduction is only available to the entity if the individual would have been entitled to deduct that amount if the same outgoing had been incurred by the individual in the same circumstances as the personal services entity. The rules merely modify the operation of the deduction rules found else where in the Income Tax Assessment Act and do not create specific deduction rules.

However, Division 85 of the ITAA 1997 contains provisions which disentitle the individual to a deduction to which they would otherwise be entitled. The most important of these are sections 85-15, 85-20, and 85-25. If a provision disentitling an individual to a deduction is applicable, the individual would not get the deduction. Where this is so, section 86-60 denies the personal services entity the deduction and it puts the entity in the same tax position as an individual.

Deductibility of superannuation

Section 86-75 of the ITAA 1997 states:

(1)     Section 86-60 does not stop a personal services entity deducting a contribution the entity makes to a fund or an RSA for the purpose of making provision for superannuation benefits payable for an individual whose personal services income is included in the entity's ordinary income or statutory income.

Subsection 86-75(1) provides that section 86-60 of the ITAA 1997 does not prevent a personal services entity from deducting a contribution to a superannuation fund for the personal services provider.

Therefore, to be able to claim a deduction on the superannuation contributions paid to the taxpayer, the personal services entity must still satisfy the conditions for deductibility of superannuation contributions by an employer under section 290-60 of the ITAA 1997.This provision mainly outlines that deductibility is dependant on whether the contributions was made for the purpose of providing superannuation benefits for another person, who is an employee.

Superannuation Guarantee Charge

The Superannuation Guarantee system works by imposing the Superannuation Guarantee Charge (SGC) on an employer's Superannuation Guarantee shortfall, in respect of individual eligible employees, for a given year. The obligation to make superannuation contributions hinges upon the receipt by the employee of payment for the performance of work.

The definition of 'employee' in the Superannuation Guarantee (Administration) Act 1992 (the SGAA) can be found in section 12. In particular subsection 12(3) of the SGAA expands the ordinary meaning of the term 'employee' to include persons who are contracted wholly or principally for their labour. In these circumstances it is indicated that the taxpayer is an employee of the company.

Earnings in Respect of Ordinary Hours of Work

The calculation of the Superannuation Guarantee Charge is calculated from the Ordinary Time Earnings (OTE) which is defined in subsection 6(1) of the SGAA.

There can be no argument that attributed personal services income does relate to the performance of work (otherwise it couldn't be PSI) but, generally, there is no actual payment of the attributed amounts to the personal services provider.

Given that there is no payment, the attributed amount cannot be considered to be earnings in respect of ordinary hours of work. Any amounts received by the employee, other than late payments of salary or wages, will have already been reported by as salary or wages income (and would potentially give rise to a Superannuation Guarantee obligation) and would not be reportable as attributed personal services income.

Therefore, any attributed personal services income of the taxpayer by the personal services entity will not generally give rise to a Superannuation Guarantee obligation. This is because the amounts of attributed personal services income are generally not paid to the personal services provider and the obligation to provide superannuation under the SGAA hinges upon the notion of receipt of payment for work. This does not stop the personal services entity from providing a superannuation contribution to the taxpayer however no obligation is placed on the company to meet the payment.

The exception to this rule is for salary or wages that have been paid 'late' and thus treated as personal services income thus giving rise to a Superannuation Guarantee obligation.

Deduction for personal services income loss

In the event of a net PSI loss by a personal services entity for a particular income year, section 86-27 of the ITAA 1997 allows the relevant individual to claim a deduction for that loss against any other income in their tax return. Subsequently, if the deduction means that the individual's taxable income is less than zero, the tax loss may be carried forward to future income years in accordance with Div 36 of the ITAA 1997.

Therefore, after following the method statement under section 86-20 of the ITAA 1997, where the superannuation contributions to the taxpayer has created a net PSI loss, the taxpayer will be able to deduct the loss in his personal tax return.

To prevent a deduction also being claimed with respect to the same amount by the personal services entity, section 86-87 of the ITAA 1997 precludes a deduction for this amount from being allowed. Thereby the entire benefit flows through to the taxpayer.

Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).