Professional Services Tax Guide
PSI rules (Part 2-42 ITAA 1997), the results test, 80% rule, service entity arrangements, home office deductions, professional indemnity, and trust structures for consultants, accountants, and lawyers in Australia.
The personal services income rules under Part 2-42 of ITAA 1997 are the defining tax mechanic for Australian professional services. If more than 50% of what you receive for an engagement is a reward for your personal labour or skills, that income is PSI, and the net amount is taxed to you as the individual regardless of whether you earn it through a company, trust, or partnership. Consultants on time-and-materials or day-rate contracts usually fail the results test because they are paid for time, use client equipment, and bear no contractual liability to fix defects at their own cost.
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Personal Services Income Rules (Part 2-42 ITAA 1997)
PSI is income that is mainly a reward for an individual's personal efforts or skills. If more than 50% of what is received for an engagement is for the individual's labour or skill (rather than assets, goods, or business structure), that income is PSI. When the PSI rules apply, the income is taxed to the individual and certain business deductions are denied, including the ability to split income to a spouse or other family members via a trust or company. The rules exist specifically to prevent sole practitioners from interposing an entity to access the company tax rate or distribute income to low-tax associates without genuine commercial substance.
The results test (primary and most favourable)
All three conditions must be met for at least 75% of PSI: the individual is paid to produce a specific result (not hourly or daily), provides necessary equipment or tools if required, and is liable to fix defects at their own cost. Consultants on time-and-materials or day-rate contracts usually fail because they are paid for time, use client-provided equipment, and are not contractually required to rectify defects. Passing the results test is the cleanest way to escape the PSI rules and access the full range of entity-level tax planning.
The 80% rule and the three remaining PSB tests
If the results test fails and less than 80% of PSI comes from one client, three further tests are available. The unrelated clients test requires PSI from two or more unrelated clients obtained by making offers to the public (website, advertising, tendering). The employment test requires at least 20% (by market value) of principal work to be performed by employees or non-associate contractors, or an apprentice for at least half the year. The business premises test requires exclusive premises, physically separate from both home and clients' premises. If 80% or more of PSI comes from a single client, only the results test or a formal ATO PSB determination can remove the PSI attribution.
Service Entity Arrangements and PCG 2021/4
Many professional firms use a service trust or service company to employ staff, hold premises and equipment, and charge service fees to the main practice entity. PCG 2021/4, effective from 1 July 2022 with active ATO review from 2024-25, provides a compliance framework for these arrangements. Two gateways must be passed before the risk-rating applies. Gateway 1 requires a genuine commercial rationale: the structure must not be more complex than necessary, and tax outcomes must align with economic substance. Gateway 2 screens for high-risk features: non-arm's-length financing, multiple share or unit classes held by non-equity principals, misuse of SMSFs, or income flowing to loss entities or non-participating family members. Arrangements passing both gateways are rated green (low risk), amber (tolerable), or red (high risk) based on how profit is allocated relative to a reasonable commercial salary for the principal and the extent of profit diversion to low-tax associates.
Sole practitioners with a basic service trust
For a sole practitioner using a service trust, the primary risk is inflated service fees or arrangements where most economic benefit ends up with non-working family members. The ATO looks at whether the service fees reflect what an arm's-length provider would charge. If the service trust charges above-market rates and distributes the surplus to the practitioner's spouse or adult children, the arrangement is likely rated amber or red. The practitioner should benchmark their service fees against what a comparable external provider would charge for the same staff, premises, and equipment.
Incorporation Restrictions by Profession
The ability to trade through a company varies by profession and state. Lawyers are regulated at the state and territory level, with most jurisdictions allowing Incorporated Legal Practices (ILPs) under conditions: at least one legal practitioner director, professional indemnity cover, and adherence to specific conduct and management rules. Non-lawyer ownership or control may be restricted. Accountants face fewer statutory incorporation limits and commonly operate as partnerships or companies owned by practitioners and family entities, subject to professional body rules from CA ANZ, CPA Australia, or the IPA on control, ethics, and PI cover. Other consultants (IT, management, engineering) have full flexibility to trade as sole traders, partnerships, companies, or trusts, subject only to the PSI rules and general anti-avoidance provisions. The structural decision for each profession balances incorporation flexibility, PSI exposure, liability protection, and professional body requirements.
Home Office Deductions for Consultants
Home office deductions split into two categories with different thresholds. Running expenses (electricity, internet, phone, stationery) are deductible using either the fixed-rate method (a per-hour rate set by the ATO) or the actual-cost method (based on reasonable usage apportionment). These are available to any consultant who works from home, regardless of whether clients visit. Occupancy expenses (rent, mortgage interest, council rates, home and contents insurance) are deductible only if part of the home qualifies as a place of business. The ATO requires factors such as clients attending the premises, business signage, and exclusive use of the space for work purposes. Claiming occupancy expenses has CGT consequences: the business-use portion of the home is excluded from the main residence exemption when the property is sold.
Home office under PSI rules
Where the PSI rules apply, certain business deductions (such as rent paid to a related entity for use of a home office) may be disallowed or restricted. However, genuine home-office expenses directly incurred by the individual for their work (electricity, internet, depreciation of office equipment) usually remain deductible even under the PSI rules. The distinction is between expenses the individual would incur regardless of structure and expenses that exist only because of an interposed entity arrangement.
Professional Indemnity and CPD Deductions
Professional indemnity insurance premiums are deductible under s 8-1 ITAA 1997. For solicitors, PI is mandatory under state legal practitioner legislation. For accountants, it is required by CA ANZ, CPA Australia, or the IPA. The full premium is deductible where it relates entirely to professional income. Where the policy bundles additional cover (management liability, public liability, cyber insurance), the income-producing portion must be identified and the non-income portion apportioned out. Compulsory CPD fees, course registrations, conference attendance, required professional subscriptions, and professional journal subscriptions are deductible where they maintain or improve skills used in the current profession. Non-compulsory development remains deductible if sufficiently connected with current income-earning activities. Study preparing for a new occupation or with only a remote business connection is not deductible.
GST on Professional Services
Standard professional services (consulting, accounting, legal, engineering, IT advisory) are taxable supplies at 10% GST. There is no special GST exemption for consulting or professional advice. Registration, charging GST, issuing tax invoices, and reporting via BAS are mandatory once total GST turnover reaches the $75,000 threshold. Professional services supplied to non-resident clients can be GST-free where the client is not in Australia and the services are used or enjoyed outside Australia. Common examples include consulting reports for overseas parent companies, legal advice for offshore clients about non-Australian matters, and remote advisory work where the non-resident client is outside Australia when the service is performed and consumed. This effective zero-rating means no GST is charged but input tax credits on related expenses remain claimable.
International supply exceptions
Care is needed where any part of the service relates to Australian real property, Australian enterprises, or Australian-based project work. These connections can bring the supply back into the taxable net even if the client is overseas. The GST Act's international supply rules require careful analysis of each engagement, particularly for consulting firms with mixed domestic and international client bases.
Trust Structures, PSI, and Section 100A
Discretionary and unit trusts are commonly used in professional practices, particularly law and accounting firms. The PSI rules look through trust structures where income is mainly for the individual's personal services, attributing the net PSI back to the practitioner. Section 100A of ITAA 1936 adds a further layer: it targets reimbursement agreements where trust distributions are made to beneficiaries who do not genuinely enjoy the economic benefit. The ATO's 2025-26 compliance focus includes trust arrangements and high-risk distributions, especially to adult children or low-tax entities where the distributed funds are circulated back to or used by the principal. Trust distributions must reflect genuine entitlements with commercial substance, consistent with both PCG 2021/4 and the ATO's broader trust guidance. The proposed CGT discount replacement from 1 July 2027 (50% discount replaced by inflation-based indexation) will change the attractiveness of holding practice assets and investments in trusts, and should be factored into any structure review undertaken now.
Statute references
- ITAA 1997 Part 2-42 (Divisions 84-87): Personal services income regime
- ITAA 1997 ss 8-1, 25-5: General deduction rules
- ITAA 1936 s 100A: Reimbursement agreements targeting trust distributions
- A New Tax System (Goods and Services Tax) Act 1999: GST on professional services, international supply rules
- ATO PCG 2021/4: Professional firm profit allocation compliance approach
- ATO 'Personal services income' guidance: PSI tests and application
- State legal practitioner legislation: Incorporated Legal Practice restrictions by jurisdiction
- CA ANZ, CPA Australia, IPA rules: Accountancy profession incorporation, conduct, and PI requirements
Frequently asked questions
I am an IT consultant on a day rate through my company. Can I retain profits at the company tax rate?+
What is the 80% rule and why does it matter for solo consultants?+
Are professional indemnity insurance premiums deductible?+
Can I claim home office occupancy expenses (rent, mortgage interest, rates) as a consultant?+
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