Edited version of your written advice

Authorisation Number: 5010051742751

Date of advice: 6 February 2019

Ruling

Subject: Deductions for occupancy expenses

Question 1

Are you entitled to a deduction for all of your home office occupancy expenses?

Answer

No.

Question 2

Are you entitled to a deduction for a portion of your home office occupancy expenses?

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 2018

The scheme commences on:

1 July 2017

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

Consultancy

You approached a number of consultancy firms advertising your specific skill set.

You were offered work as a consultant with a company (the Company).

All of your consulting income during the 2018 financial year was received from this company.

The income you receive is paid into a trust.

Your private consulting work includes meetings which are conducted regularly via X.

You will occasionally travel to engage with the company’s clients.

You do not engage any other entities to assist you with this work.

Your contract (the Contract) provides the following:

● The Contract is between yourself (as an individual) and the Company.

● It is a fixed term contract.

The Contract includes clauses relating to duties and responsibilities, remuneration, and the provision of tools.

You also sold a number of products to the Company prior to commencing working with them.

Home Office

You have a home office setup for your income producing activities that are unrelated to your employment.

Your home office is a single room within your private premises.

Your home office consists of office space including a desk, filing cabinets to store your research materials, and various other office resources.

The Company does not have any business premises in Australia and you are required to conduct your consultancy activities out of your home office.

You only perform income producing activities unrelated to your employment from your home office; you do not use the home office for your employment activities.

Relevant legislative provisions

Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)

Division 84 of the ITAA 1997

Division 85 of the ITAA 1997

Division 87 of the ITAA 1997

Reasons for decision

Occupancy expenses

Under section 8-1 of the ITAA 1997 a deduction is allowed for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature.

However, if the personal services income (PSI) rules apply, deductions are restricted and section 85 -15 of the ITAA 1997 denies a deduction for an amount of rent, mortgage interest, rates or land tax in relation to an individual’s private residence.

The PSI rules only apply to income earned mainly from the provision of an individual's labour or skills rather than being generated by the use of assets, the sale or supply of goods, the granting of a right to use property or by a business structure.

By definition, income earned by an employee is PSI. However, the PSI rules do not apply to employees, except where an individual is an employee of an interposed entity. In addition to this the PSI rules will not apply where the income is earnt in the course of conducting a personal services business.

In order to determine if your occupancy expenses are deductible we need to determine if your income (or part thereof) is PSI and whether you are conducting a personal services business.

Is part of or all of your income PSI?

PSI is defined in Section 84-5 of the ITAA 1997 as:

1) 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).

…

2) Only individuals can have personal services income.

3) This section applies whether the income is for doing work or is for producing a result.

4) The fact that the income is payable under a contract does not stop the income being mainly a reward for your personal efforts or skills.

And is further expanded upon within Taxation Ruling TR 2001/7 – Income tax: the meaning of personal services income. Paragraph 50 of TR 2001/7 provides the following examples of what constitutes income from personal services:

● salary or wages;

● income of a professional person practising on his or her own account without professional assistance - for example, a medical practitioner in a sole practice;

● income payable under a contract which is wholly or principally for the labour or services of a person;

● income derived by a professional sports person or entertainer from the exercise of his or her professional skills. This does not include income from endorsement by the person of a sponsor's products; and

● income derived by consultants, for example, computer consultants or engineers from the exercise of personal expertise.

TR 2001/7 also states what is not PSI at paragraph 29:

29. The meaning of personal services income is wider than that which might otherwise be the case under the common law, but it does not include income that is mainly:

● from an entity supplying goods or granting a right to use property;

● generated by assets an entity holds; or

● generated by the business structure.

As outlined in paragraph 44 of TR 2001/7 the definition of PSI applies to amounts of income not to all of an individual’s income. This means that if only part of your income is from the provision of personal services only that amount will be captured by the PSI rules.

In the 2018 income year you only generated income from your consulting work for the Company and from the sale of a product to the Company prior to commencement of your consulting contract.

Products sold to the Company

You sold a number of products to the Company prior to commencement of your consulting work and received a lump sum amount in as payment for them. As that income was received for the sale or supply of a product rather than a reward for your personal efforts or skills it is not PSI.

Amounts received under the Contract

You state you obtained the Contract by advertising your specific skills, after which you were offered work as a consultant with the Company. The Contract outlines your duties and responsibilities whilst working with the Company. In short you have been engaged by as a Senior Advisor to source clients, engage with potential clients, assist with client interaction and relationship management and assist in the generation of sales revenue.

The income you receive for undertaking this role is a reward for your personal efforts and skills and is therefore personal services income.

If you do not meet one of the personal services business tests in relation to your consulting income from the Company, the PSI rules will apply to you.

Personal Services Business (PSB)

To be considered a personal services business, one of four tests must be met. These tests are:

● The results test (section 87-18 of the ITAA 1997);

● The unrelated clients test (section 87-20 of the ITAA 1997);

● The employment test (section 87-25 of the ITAA 1997); and,

● The business premises test (section 87-30 of the ITAA 1997).

The Results Test

Subsection 87-18(1) of the ITAA 1997 provides that an individual meets the results test in an income year if, in relation to at least 75% of the individual's PSI during the income year:

a) the income is for producing a result; and

b) the individual is required to supply the plant and equipment, or tools of trade, needed to perform the work from which the individual produces the result; and

c) the individual is, or would be, liable for the cost of rectifying any defect in the work performed.

All three of these conditions need to be met in order for the results test to be satisfied.

The Commissioner’s view on what constitutes a PSB is outline in Taxation Ruling TR 2001/8 - Income tax: what is a personal services business. In considering the first condition paragraphs 113 to 121 of TR 2001/8 provide further guidance as to when income is received for producing a result. The taxation ruling provides that the phrase “producing a result” means the performance of a service by one party (using their own means) for another to achieve a contractually specified outcome. Here, the consideration for the service provided is often a fixed sum on completion as opposed to an hourly or daily rate.

The Contract states that you are paid an amount per day. You are entrusted with all of the duties of a Senior Adviser. You are also required to identify potential clients, engage with potential clients, and assist with client interaction and relationship management, and you are primarily engaged to assist in the generation of sales revenue for the Company.

Your contract shows that you are paid a daily rate for work done in that day and are paid on a monthly basis. Whilst you are expected to produce outcomes in your work, payment is not contingent on achieving a specific result. As such your income is not for producing a result and the first condition of the results test is not met.

Given that you are required to satisfy all three conditions in order to meet the results test, you are not conducting a PSB under this test. However, we will still consider the other two conditions of this test briefly for completeness.

The second condition of the results test requires you to supply the plant and equipment, or tools of trade needed to complete the work. Under the Contract you are required to supply the tools required to conduct your work with the exception of software which is provided by the Company. Where software is required by the principal it is customary for that software to be provided by the principal. As you are required to supply your own tools and equipment except for that customarily supplied, you would meet this condition.

The third condition requires that any liability for rectifying costs of defects rests on the individual. Paragraphs 131 to 139 of TR 2001/8 discuss what is meant by the phrase “liable to rectify any defect”. In essence these paragraphs provide this it isn’t sufficient to just have a clause in a contract which states you will be liable it is an objective consideration of all circumstances. There is no evidence in the Contract that you are liable for the cost of rectifying any defects in your work. Additionally, as you are paid for performing work on a daily basis, any defects can be rectified as part of your daily work. It is considered that you do not meet this condition.

The Unrelated Clients Test

Subsection 87-20(1) of the ITAA 1997 states that an individual or a personal services entity meets the unrelated clients test in an income year if:

a) during the year, the individual or personal services entity gains or produces income from providing services to 2 or more entities that are not associates of each other, and are not associates of the individual or of the personal services entity; and

b) the services are provided as a direct result of the individual or personal services entity making offers or invitations (for example, by advertising), to the public at large or to a section of the public, to provide the services.

The reference in paragraph 87-20(1)(a) of the ITAA 1997 to “gains or produces income” is clarified in paragraph 45 of TR 2001/8 as only being a reference to the gaining or producing of an individual’s PSI.

You have only earned PSI from one source during the relevant income year, being your consulting work. As subsection 87-20(1) requires both conditions to be met and the Company is your only client you will not meet the requirements of paragraph 87-20(1)(a). Therefore, you do not meet the unrelated clients test.

The Employment Test

Subsection 87-25(1) of the ITAA provides that an individual meets the employment test in an income year if:

a) the individual engages one or more entities (other than associates of the individual that are not individuals) to perform work; and

b) that entity performs, or those entities together perform, at least 20% (by market value) of the individual's principal work for that year.

You do not engage with any other entities to perform the work in the earning of your PSI and therefore you are not conducting a PSB under the employment test.

The Business Premises Test

Under subsection 87-30(1) of the ITAA 1997 an individual or a personal services entity meets the business premises test in an income year if, at all times during the income year, the individual or entity maintains and uses business premises:

a) at which the individual or entity mainly conducts activities from which personal services income is gained or produced; and

b) of which the individual or entity has exclusive use; and

c) that are physically separate from any premises that the individual or entity, or any associate of the individual or entity, uses for private purposes; and

d) that are physically separate from the premises of the entity to which the individual or entity provides services and from the premises of any associate of the entity to which the individual or entity provides services.

As you use a room in your private residence to perform your PSI activities you do not meet paragraph 87-30(1)(c) of the ITAA 1997.

As all of the conditions of the business premises test need to be satisfied, you will not be a conducting PSB under the business premises test.

Are you conducting a PSB?

Given that you would not meet any of the PSB tests under Division 87 of the ITAA 1997 you are not conducting a PSB.

Deductibility of occupancy expenses

Occupancy expenses are expenses that relate to the ownership or use of a home. These expenses include rent, mortgage interest, municipal and water rates, land taxes and house insurance premiums.

Taxation Ruling TR 93/30 - Income tax: deductions for home office expenses contains the Commissioner’s view in relation to home occupancy expenses. Paragraphs 5 of TR 93/30 provides some factors to consider in determining whether an area has the character of a place of business:

● the area is clearly identifiable as a place of business;

● the area is not readily suitable or adaptable for use for private or domestic purposes in association with the home generally;

● the area is used exclusively or almost exclusively for carrying on a business; or

● the area is used regularly for visits of clients or customers.

This is further expanded upon in paragraphs 11 to 13 of TR 93/30 which state:

11. Paragraph 5 lists some of the factors which may indicate that a part of a home has the character of a place of business. The existence of any of these factors or a combination of them will not necessarily be conclusive in ascertaining the character of an area used as a home office. Rather the decision in each case will depend on whether, on a balanced consideration of:

● the essential character of the area;

● the nature of the taxpayer's business; and

● any other relevant factors,

● the area constitutes a "place of business" in the ordinary and common sense meaning of that term.

12. The absence of an alternative place for conducting income producing activities has also influenced a court or tribunal to accept a part of a taxpayer's residence as a place of business. Examples include:

● a self employed script writer using one room of a flat for writing purposes and for meetings with television station staff ( Swinford's Case);

● an employee architect conducting a small private practice from home ( Case F53, 74 ATC 294; Case 65, 19 CTBR(NS) 452);

● a country sales manager for an oil company whose employer did not provide him with a place to work ( Case T48, 86 ATC 389; Case 47, 29 CTBR(NS) 355).

In each of these cases the taxpayer was able to show that, as a matter of fact, there was no alternative place of business, it was necessary to work from home, and that the room in question was used exclusively or almost exclusively for income producing purposes.

13. In circumstances such as those referred to in paragraph 12, a place of business will exist only if:

● it is a requirement inherent in the nature of the taxpayer's activities that the taxpayer needs a place of business;

● the taxpayer's circumstances are such that there is no alternative place of business and it was necessary to work from home; and

● the area of the home is used exclusively or almost exclusively for income producing purposes.

You have a home office setup for your income producing activities unrelated to your employment. This is a single room within your private premises and consists of office space including a desk, filing cabinets to store your research materials, and various other office resources.

As the Company do not have any business premises in Australia you are required to conduct your consultancy activities out of your home office. You do not conduct any work from your employment from your home office.

As the home office is used solely for your income producing activities unrelated to your employment and it is a requirement for you to conduct these activities out of this home office, in applying the principles outlined in paragraph 12 and 13 of TR 93/30 your home office will be a place of business. As your home office is a place of business the occupancy expenses in relation to that room would generally be deductible under section 8-1 of the ITAA 1997.

However, as you are not a PSB you will not be entitled to a deduction for your occupancy expenses in relation to your PSI.

The income you earned from the sale of a product to the Company outside of your contract is not PSI and you may be entitled to a deduction for occupancy expenses.

You will need to apportion the deduction based on the amount of non-PSI income you earn out of your total income (that is PSI plus non-PSI). For example, you would determine what percentage of your total income that is unrelated to employment is not PSI and apply that percentage to determine your deductible occupancy expense.

Even though you are unable to claim occupancy expenses in relation to your PSI activities, you will be entitled to claim a deduction in relation to the running costs of your home office as these are not denied under the PSI rules. TR 93/30 provides that running expenses are expenses related to the use of facilities within your home such as electricity charges for heating/cooling, cleaning costs, depreciation, and costs of repairs on items of furniture and furnishings in the home office.

Conclusion

You will be entitled to a deduction for occupancy expenses relating to any non-PSI that you earn through your income producing activities unrelated to your employment, this includes amounts that you receive for selling products outside of the Contract.

As your income from your work with the Company is PSI and you are not conducting a PSB you are not entitled to a deduction for occupancy expenses against this income. You will however be entitled to a deduction for running expenses.

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