Edited version of private advice

Authorisation Number: 1051626633448

Date of advice: 15 January 2020

Ruling

Subject: Personal services income

Question

Is the income for services provided to Entity Z personal services income?

Answer

Yes

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

The company owns the rights to educational products including training guides it developed.

These materials are able to be used to obtain certain Certificates.

An individual is director of the company.

The company's activities are stated as involving some consulting and training work as well as the rights to use its property.

Both the company and the individual entered into separate services agreements with a labour hire firm to provide services in Country X however, only the agreement with the individual has been executed.

The individual was initially offered a contract in their name but advised the contracting company that, to allow for rights to the training material content, a business contract was required, hence why two contracts existed. It also states that only the contract with the company was in effect for the duration of the contract.

It was stated that two contracts were created due to issues with how legal entities are treated in Country X. It also states that payslips do show the individual's name on them but the service agreement was with the company and the company was the contractor as well as the entity being paid.

There is no difference between the two agreements except for one clause.

Clause Y stipulates that the fee for the services is USDX per day before taxes. This amount is subject to change if hours or obligations are not met.

It was stated that funds from the Country X project were deposited into the business bank account in Australia.

You do not have any employees but contractors and employees of the contracting company may use the training resources to train new staff in the business.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 84-5(1)

Income Tax Assessment Act 1997 subsection 84-5(3)

Reasons for decision

Summary

The income for services provided to Entity Z is the personal services income of the individual.

Detailed reasoning

Personal services income

The personal services income (PSI) measures contained in Divisions 84 to 87 of the Income Tax Assessment Act 1997 (ITAA 1997) only apply if a taxpayer has income that is PSI.

The definition of PSI is contained in subsection 84-5(1) of the ITAA 1997.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 1997 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.

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 1997).

Mainly

The reference to 'mainly' requires more than half of the relevant amount of the ordinary income or statutory income be a reward for the personal efforts or skills of an individual. Where the income is derived under a contract and that contract is for the rendering of personal efforts or the provision of the skills or expertise of a particular individual, the income derived under that contract would mainly be a reward for that individual's personal efforts or skills.

Whether the provision of the personal efforts of skills of an individual to a service acquirer is the chief or principal component of a contract will depend on the substance of the agreement or contract under which services are provided.

Situations may arise where the rendering or provision of personal efforts or skills is incidental to the sale or supply of goods, or to the granting of a right to use property, or to the supply and use of income-producing assets. Income in these situations will not be mainly a reward for the personal efforts of skills and will not be personal services income.

If the income received from the contract is mainly (more than 50%) a reward for the personal efforts and skills of an individual, it will be PSI.

Income which is mainly generated from the sale or supply of goods or granting a right to use property or assets an entity holds is not PSI as it is not paid mainly as a reward for an individual's personal effort. Rather it is paid mainly as consideration for the provision of the goods or due to the use of an asset.

Income generated from the business structure of an entity is also not PSI.

Income mainly from the supply or sale of goods or granting a right to use property

Even where personal efforts or skills are used in the production of something that is to be sold, then any later contract for the sale of that item or property would be for the sale or supply of goods. The payments made to the individual or personal services entity would not be in respect of an individual's personal efforts or skills in relation to the sale of goods but, rather, to acquire ownership (legal and beneficial) of the item produced.

Where, however, the substance of a contract or related contracts is for the personal labour or efforts, or the exercise of the skills of an individual for a service acquirer, the fact that ownership of materials that are used passes to the service acquirer does not alter the substance of the contract, which is mainly for the efforts and skills of the individual.

The supply and use of income-producing assets

Income which is principally generated by assets is not personal services income as it is not paid mainly as a reward for an individual's personal effort or skills. Judgment is required to determine whether the income is mainly the result of the use or supply of assets, or the provision of personal efforts or skill.

The following factors are relevant considerations in determining if income is from the supply and use of income-producing assets:

·         the market value of the supply and use of the asset, compared with the market value of the personal services;

·         the basis on which the contract price has been calculated and the extent to which the contract price relates to the costs borne by the individual or personal services entity in supplying and using the plant and equipment or other assets in the income-producing activity;

·         the significance or uniqueness of the assets in the income-producing activity;

·         the gross value of the asset in relation to the income of the individual or personal services entity from the particular activity; and

·         the role the asset plays in generating the income.

Where a contract specifies that particular assets are to be supplied and used, or the nature of the contract is such that without those assets the contractual obligations would not be able to be performed and the use of those assets are not dependent on any particular skills of the individual, it is likely that income would be regarded as being for the supply and use of income producing assets. However, there may be other situations where assets are used, but analysis of the results from the use of the assets is dependent on the personal skills or qualifications of the individual. In these cases, the conclusion may still be reached that the income is personal services income.

Income from a business structure

PSI does not include amounts that are generated from the income yielding structure of a business rather than from the rendering of personal services.

Income derived by a firm or practice which has substantial income producing assets, or many employees, or both, is more likely to be generated from the income yielding structure of the business rather than from the rendering of personal services.

The distinction between income that is mainly a reward for personal efforts or skills and income from a business structure will need to be made having regard to factors such as the number of arm's length employees or others engaged to perform work, the presence of goodwill, the extent to which income-producing assets are used to derive the income, the nature of the activities carried out, the size of the operation and the extent to which the income is dependent upon a particular individual's own personal skills, efforts or expertise.

Analysis

In your application, your representative has stated that approximately 95% of the income from the service agreements is income from the rights to use materials that are an asset of the company and the requirement to retain the rights of these materials that the company owns is by the use of a business structure.

The service agreements evidence the services that are to be provided.

However, these are not the only services to be provided. The services in the agreements mainly relate to activities that use the individuals' personal skills and efforts. For instance references to facilitate certain actions, implement plans, participate in activities and coach and train workers. The services agreements do not state that payment is made for the training packages or intellectual property of the company. Whilst the training packages have been requested to be provided by the contracting company, those training packages only assist the individual to provide some of the services contractually required and remunerated for. They are incidental to the provision of the individual's efforts or skills. The essence of the contract is for the provision of the personal efforts and skills of the individual.

Payment is not made for the training packages. The payslips evidence that more than half of the income received is a reward for the individual's efforts and skills.

Based on information provided in the services agreements, remuneration is paid mainly for the personal efforts and skills of the individual and is not income derived from the supply and use of assets or granting a right to use property, the supply or sale of goods or from a business structure.

Your representative states that payslips show the individual's name on them but the service agreement was with the company and the company was the contractor as well as the entity being paid. This is not supported on the evidence provided. Based on the evidence provided, the income is derived by the individual and not by the company.

Even if the income was derived by the company, the income will still be the PSI of the individual and the personal services income rules in Part 2-42 of the Income Tax Assessment Act 1997 will apply to that income unless one of the personal services business tests are met.

Conclusion

The income earned under the services agreement is mainly a reward for the individuals' personal efforts and skills and therefore is his personal services income.