Personal Service Income (PSI) is income earned by an individual that is mainly a reward for their personal skills, knowledge, expertise, or efforts. The Australian Taxation Office (ATO) has set out specific rules and guidelines for individuals earning PSI to ensure that they are taxed correctly. In this blog, we will explore what personal service income is, who is eligible to earn it, how it is taxed, and how it should be reported to the ATO.
Definition of Personal Service Income
PSI is income earned by an individual who provides personal services such as consulting, coaching, or freelance work. It is a type of income that is paid for an individual’s personal efforts or skills, rather than for goods or assets. Examples of individuals who earn PSI include consultants, freelancers, tradespeople, IT professionals, designers, and coaches.
How Personal Service Income Differs from Other Types of Income
PSI is different from other types of income, such as income from the sale of goods or assets. Income from the sale of goods or assets is taxed at a different rate, and there are different rules around how it is reported to the ATO. PSI is considered to be part of an individual’s business income and is taxed at their marginal tax rate. Additionally, if an individual earns PSI through a company, trust, or other entity, different tax rules apply.
Criteria for Earning Personal Service Income
To be considered as earning personal service income, an individual must meet several criteria. Firstly, they must be paid mainly for their skills, knowledge, expertise, or personal efforts. Secondly, they must work under a contract where they are paid to produce a specific result. Thirdly, they cannot delegate the work to someone else. Fourthly, they must use their own tools, equipment, or assets to perform the work. Lastly, they are legally responsible for the quality of the work performed.
Examples of Individuals Earning Personal Service Income
As previously mentioned, examples of individuals who earn PSI include consultants, freelancers, tradespeople, IT professionals, designers, and coaches. These individuals provide services that require their personal skills and expertise, and their income is earned through the delivery of their services. For example, a freelance writer may earn PSI by providing writing services to clients, while an IT professional may earn PSI by providing technical support or software development services.
Taxation of Personal Service Income
Personal service income is considered to be part of an individual’s business income and is taxed at their marginal tax rate. However, if an individual is a sole trader or in a partnership, there are special rules that apply to the way PSI is taxed. For example, they may be eligible to claim certain deductions against their personal service income, such as expenses related to running their business. Additionally, they may be required to pay Pay As You Go (PAYG) instalments throughout the year.
If an individual earns PSI through a company, trust, or other entity, different tax rules apply. The entity may be subject to the personal services income rules, which require that the income be attributed to the individual who performed the services, and taxed accordingly. This is to prevent individuals from using these entities to avoid paying tax on their PSI.
Reporting Personal Service Income
It is essential for individuals who earn personal service income to understand the rules and regulations set out by the ATO. This will help them to ensure that they pay the correct amount of tax and avoid any penalties or fines. The ATO also provides resources and guidance to help individuals understand the rules and how to report their income correctly.
One of the challenges faced by individuals who earn PSI is determining whether they are considered an employee or a contractor. This is important as the tax rules and obligations can differ depending on the individual’s classification. The ATO provides a tool called the Employee/Contractor Decision Tool, which can help individuals determine their classification.
Another challenge faced by individuals who earn PSI is determining whether they are subject to the personal services income rules. The ATO has specific rules that apply to individuals who earn personal service income through a company, trust, or other entity, to prevent them from using these entities to avoid paying tax on their income. Understanding these rules is crucial to ensure that individuals comply with the law and avoid any penalties or fines.
Reporting PSI correctly is essential to ensure that individuals pay the correct amount of tax and comply with the ATO rules and regulations. The ATO provides resources and guidance to help individuals understand the rules, and it is important for individuals to seek advice from a qualified professional if they have any questions or concerns.