Personal Services Income is one of the most misunderstood tax rules for Australian contractors, consultants and professionals. Get it wrong and you risk denied deductions, amended returns and uncomfortable ATO conversations.
This guide explains PSI in plain English, how it applies in Australia, and how the ATO now looks at Personal Services Businesses (PSBs) under its updated guidance.
Introduction
If you earn income mainly from your skills or labour, Personal Services Income can significantly affect how you are taxed and what deductions you can claim.
Many business owners say, “I’ve got a company, so PSI doesn’t apply to me”. Unfortunately, that assumption causes some of the most expensive mistakes we see.
What Is Personal Services Income (PSI)?
Personal Services Income (PSI) is income earned mainly as a reward for an individual’s personal effort, skills or expertise, rather than from selling products or running a scalable business.
The Australian Taxation Office looks at the substance of how income is earned, not the structure you use.
PSI commonly affects:
- IT contractors and developers
- Engineers and project managers
- Management and business consultants
- Medical and allied health professionals
- Designers, creatives and marketing specialists
- Certain trades working on contract
A simple test is this:
If clients are paying because of you personally, not because of a business system, brand or workforce, PSI is likely in play.
Why Personal Services Income Matters
The PSI rules exist to prevent people from accessing tax benefits that regular employees cannot access.
If PSI applies and is not managed correctly:
- Income may be attributed back to you personally
- Income splitting with family members is restricted
- Certain deductions are denied or limited
This is why PSI reviews often result in amended assessments and penalties.
Common PSI Red Flags We See
In real-world client work, PSI risk often increases where:
- One client provides most of the income
- You are paid hourly or daily
- You cannot subcontract or delegate work
- The client controls how, when and where work is done
- There is little of your own independent branding or marketing
We often hear, “But I have an ABN and charge GST”. Unfortunately, those factors alone do not override PSI.
How the PSI Tests Work
The ATO uses four tests to assess whether PSI rules apply. These tests focus on whether you are genuinely operating a business.
Results Test
You pass the results test if:
- You are paid to deliver a specific outcome, not for time
- You supply your own tools or equipment
- You are responsible for fixing defects in your work
Passing this test generally means PSI rules do not apply.
Unrelated Clients Test
You pass if:
- You have two or more unrelated clients
- Clients are obtained through advertising or public offers, not labour hire
Employment Test
You pass if:
- You engage employees or contractors to perform at least 20 percent of the principal work
Business Premises Test
You pass if:
- You operate from separate business premises, not your home or client sites
If you pass the unrelated clients test and one of the Employment test or Business Premisses tests PSI is unlikely to apply.
Personal Services Business (PSB): The Updated Reality
A Personal Services Business (PSB) is a business that earns PSI but satisfies at least one of the PSI tests or has an ATO PSB determination.
Historically, many contractors believed that once you qualify as a PSB, all PSI issues disappear. This is no longer how the ATO views things.
What PSB Status Actually Does
If you qualify as a PSB:
- The PSI attribution rules and deduction limitations do not apply
- You can generally claim normal business deductions
- Income does not automatically have to be attributed back to you
However, PSB status does not give unlimited freedom to split income or retain profits at lower tax rates.
ATO Guidance and the PSB “Safe Harbour” Approach
The ATO has issued clear guidance on how it will assess PSB arrangements, focusing on whether income outcomes align with commercial reality.
Rather than a single rule, the ATO applies a risk-based approach.
Lower-Risk (Safe Harbour in Practice)
PSB arrangements are more likely to be considered low risk where:
- The individual performing the work is paid an amount broadly commensurate with the value of their personal services
- PSI is effectively taxed at similar rates to if the individual earned it directly
- Payments to associates (such as a spouse) are for genuine work, paid at market rates
- Retained profits can be explained by normal business needs such as cash flow, growth or risk management
In simple terms, the ATO asks: Does this look like a normal commercial arrangement?
Higher-Risk PSB Arrangements
Risk increases where:
- Significant PSI is retained in a company mainly to access the lower company tax rate
- Income is diverted to lower-taxed family members without real commercial justification
- The individual doing the work is paid well below the value of their contribution
- The structure exists primarily to reduce tax rather than run a business
Even if PSI tests are passed, these arrangements can still attract ATO scrutiny under general anti-avoidance principles.
Deductions and PSI: What Changes
If PSI applies and you are not operating as a PSB:
- Home occupancy expenses are usually denied
- Payments to associates are restricted or denied
- Some super and admin-related deductions may be limited
If you are a PSB:
- Ordinary business deductions are generally allowed
- Associate payments must still reflect real work and market value
- Record-keeping becomes critical to support your position
PSI and Business Structures: Companies and Trusts
A company or trust does not automatically protect you from PSI.
The ATO looks at:
- Who performs the work
- Why clients pay
- Whether income depends on personal effort
We regularly help clients review whether their structure still makes sense. You can book a meeting to discuss how we can help you with PSI
👉 https://accountantbusiness.com.au/
A Client Story From Practice
An engineering consultant came to us confident he was a PSB. He passed the results test, but his company retained most profits while he paid himself a modest salary.
While technically a PSB, the arrangement was high risk under the ATO’s guidance.
We helped restructure remuneration, document commercial reasoning, and reduce exposure. His feedback was simple: “I didn’t realise PSB didn’t mean unlimited flexibility.”
How to Reduce PSI and PSB Risk
Practical steps include:
- Reviewing contracts to focus on outcomes, not hours. Be sure it’s genuine, sham contracts will be set aside.
- Paying yourself appropriately for the work you perform
- Ensuring associate payments reflect genuine contributions
- Keeping strong documentation around commercial decisions
- Reviewing your setup annually as clients and income change
Need Help With PSI or PSB?
If you are unsure whether PSI applies to you, or whether your PSB arrangement sits in the ATO’s low-risk zone, we can help.
👉 Book a confidential strategy meeting
https://calendly.com/accountants2business/meeting-partner-janelle-bartlett-new-enquiryweb-clone?month=2024-10
👉 Download our free business and tax guides
https://accountantbusiness.com.au/our-guides/
Getting clarity now can save you tax, stress and ATO attention later.
