Personal services income is defined in section 84-5 of the Income Tax Assessment Act 1997 (ITAA 1997) as income that is mainly a reward for an individual's personal efforts or skills. In practice, if more than 50% of the income from a contract is generated by the individual's labour, skill or expertise, that income is likely to be PSI. The PSI regime is structured across Division 84 (definition), Division 85 (deduction limits), Division 86 (attribution rules), and Division 87 (personal services business tests).
In the Australian tax system, how you earn money matters just as much as how much you earn. Personal services income (PSI) represents a specific category of earnings that the ATO treats differently from ordinary business income. At its core, PSI is income derived principally from your personal exertion, knowledge, or skills rather than from capital investment, assets, or a structured business operation.
This distinction matters because the PSI rules can limit deductions and, where income is earned through a company, trust or partnership, may attribute that income to the individual who performed the work. Importantly, earning PSI does not automatically mean the adverse PSI rules apply. The next question is whether the individual or entity is conducting a personal services business (PSB). If a PSB test is satisfied, the PSI rules generally do not apply.
In our experience advising Melbourne subcontractors, the most common scenarios involve construction trades, consulting, professional services, and contract labour. A bricklayer working directly for a residential builder earns PSI. By contrast, a project manager who employs a team of bricklayers, carries professional indemnity insurance, and assumes liability for project outcomes may not be classified as PSI, because their income derives from managing a team and business structure rather than solely from personal labour.
The starting point is to identify whether the income is PSI under section 84-5. If the income is mainly a reward for the individual's personal efforts or skills, it is PSI. Once that threshold is met, the next step is to determine whether the individual or entity qualifies as a personal services business (PSB) under Division 87 by passing at least one of the four statutory tests. If no test is passed, the attribution and deduction limitation rules take effect.
For detailed guidance, the ATO's Personal Services Income page provides resources, case studies, and legislative references.
The ATO provides four tests under Division 87 to establish a personal services business: the results test, unrelated clients test, employment test, and business premises test. If you pass the results test, you can self-assess as a PSB regardless of client concentration. For the other three tests, you generally need to satisfy the 80% rule before you can self-assess. If 80% or more of your PSI comes from one client and its associates, you cannot self-assess under those three tests and may need an ATO determination instead.
Determining whether the PSI restrictions apply requires applying the personal services business tests set out in Division 87 of the ITAA 1997. The ATO recognises that not all individuals who earn income from their personal efforts are running a personal services business. If you can demonstrate that your activities meet at least one of the four PSB test criteria, the PSI restrictions will not apply to your income.
The results test stands alone: if you pass it, you can self-assess as a personal services business regardless of your client concentration. For the other three tests (unrelated clients, employment, and business premises), you must also satisfy the 80% rule, meaning less than 80% of your PSI comes from a single client and their associates. This is a critical distinction the ATO applies when determining eligibility to self-assess. Let's examine each test:
| Test | What It Measures | Example |
|---|---|---|
| Results Test | You are paid for a result, you provide your own tools, and you are liable to fix defects | A plumber paid per job who owns their equipment and guarantees workmanship |
| Unrelated Clients Test | You derive PSI from two or more unrelated clients through a public offer, and you also satisfy the 80% rule | A freelance electrician who advertises services publicly and works for multiple separate customers, with no single client exceeding 80% of PSI |
| Employment Test | At least 20% (by market value) of the principal work is performed by employees or contractors, or you employ one or more apprentices for at least 6 months. The 80% rule must also be met. | A building contractor who engages subcontractors to perform 20% or more of the principal work on each contract |
| Business Premises Test | You maintain business premises separate from a client's premises | A consulting firm with an office where administration and planning occur |
The Results Test is the most commonly used by tradies and service providers. Broadly, it requires that for at least 75% of the PSI, the individual or entity is paid to produce a specific result, provides the plant, equipment or tools needed to do the work, and is liable for the cost of rectifying defects. A contractor engaged for a fixed price to complete a defined job, using their own equipment and fixing defects at their own cost, is more likely to satisfy this test than someone paid by the hour to supply labour only.
The Unrelated Clients Test requires that you receive PSI from two or more unrelated clients (not related to each other or to you) during the income year, and that there is a direct connection between your offer of services to the public at large and your engagement to perform the work. You must also satisfy the 80% rule, meaning less than 80% of your PSI comes from one client and their associates. This combination reflects a business that is not dependent on a single source of income and obtains work through genuine public advertisement or tender, rather than operating as a disguised employee.
The Employment Test recognises that if you engage others to perform a meaningful portion of the principal work, you are operating a genuine business. This test is met where at least 20% (by market value) of the principal work that generates your PSI is performed by your employees or contractors. Alternatively, it is met where you employ one or more apprentices for at least six months of the income year. Principal work means the core work that generates income, not administrative or support tasks. You must also satisfy the 80% rule to self-assess using this test.
The Business Premises Test is a strict test. It is not enough to have a home office or occasionally rent a desk. Broadly, the business must maintain premises that are: mainly used to conduct the personal services work; used exclusively by the business; physically separate from private premises; and physically separate from the client's premises. This test is most commonly satisfied by consultants, designers, and professional service providers who lease dedicated commercial space.
For authoritative guidance on each test and how the ATO applies them, consult the ATO's Personal Services Income page.
If the PSI rules apply and no PSB test is satisfied, the consequences can be significant. Division 86 may attribute PSI earned through a company, trust or partnership back to the individual who performed the work. Division 85 can restrict certain deductions. The rules do not mean that every deduction disappears, but PSI is taxed more like income from personal exertion than income from a scalable business structure.
Classification as a personal services business has significant tax consequences. Understanding these consequences is essential for structuring your affairs correctly and planning your tax strategy.
Attribution Rules (Division 86)
Under Division 86 of the ITAA 1997, PSI earned through a company, trust or partnership may be attributed back to the individual who performed the work. This limits the ability to divert PSI through an entity merely to access lower tax rates or split income with family members. The legislative mechanism ensures the income is taxed at the individual's marginal rate, with an offsetting framework to prevent double taxation. This is a technical area requiring careful compliance and professional advice.
Similarly, if you use a discretionary trust, the PSI cannot be distributed among multiple beneficiaries to reduce the overall tax burden. It must be allocated to the individual who performed the work or retained in the trust at the top marginal rate.
Deduction Restrictions (Division 85)
Division 85 of the ITAA 1997 can restrict deductions where the PSI rules apply. Ordinary business deductions can still be available where they are otherwise deductible and not specifically denied. The main restrictions include:
Payments to Associates: Under the PSI deduction rules, payments to associates for non-principal work are generally denied, with limited exceptions. The ATO's position is stricter than standard arm's length principles â deductions for associate payments are only available where the associate performs work that directly produces the PSI and the amount is reasonable.
Travel Deductions: The PSI rules can restrict certain travel-related deductions. Whether a particular travel expense is deductible depends on the nature of the expense and the specific statutory exclusions in Division 85. Each claim requires individual assessment against the legislation rather than a blanket rule.
Home Office Deductions: There are restrictions relating to rent, mortgage interest, rates and land tax for a residence where those expenses relate to PSI. Home office deductions for PSI earners are limited to expenses directly connected to earning PSI. The method of calculation should be confirmed against current ATO guidance, as PSI-specific restrictions may limit what can be claimed.
For detailed guidance on deduction restrictions, consult the ATO's PSI Deductions page.
The results test is the pathway most subcontractors and tradies choose to escape PSI classification. It is structured around three interconnected elements that together demonstrate you operate a genuine business rather than providing personal labour as an employee would.
Element 1: Paid for a Result
You are paid a fixed amount or agreed price for a specific, identifiable result. This differs from being paid hourly rates or daily rates, which is more characteristic of employment. A construction subcontractor paid $5,000 to construct a brick wall to specification is paid for a result. An electrician paid $80 per hour is not clearly paid for a result; they are paid for time spent.
The result must be objectively verifiable. The client should be able to point to the completed work and confirm it meets the agreed specification. Vague arrangements or rolling retainers make it harder to argue you are paid for a result.
Element 2: Supply Your Own Tools and Equipment
You provide your own tools, equipment, materials, or other resources needed to perform the work. This demonstrates capital investment and business operation beyond personal labour. A plasterer who owns their own trowels, stilts, scaffolding, and mixing equipment passes this element. A worker supplied with all tools by the client fails this element and is more likely to be classified as an employee or engaged in PSI.
The tools and equipment must be substantial and necessary for the work. A pen used by a consultant to write proposals does not count; a computer, design software, and professional library do count.
Element 3: Liability for Defects and Rectification
You are liable to correct or rectify any defects in your work at your own cost and without additional payment. This obligation mirrors the responsibility a business owner carries for delivering quality goods or services. If a client discovers defects in your work and you must return to fix them for free, you clearly bear the risk of your performance.
Your contractual terms should explicitly state your liability for defects. A clause such as "The subcontractor warrants all work for 12 months and is responsible for the cost of rectifying any defects discovered within that period" strengthens your position on this element.
In construction, the results test is often the most practical pathway. A bricklayer contracted to build three walls for a residential developer at a fixed price, providing their own tools, and warranting the work for one year, clearly passes the results test and avoids PSI classification.
For detailed examples of how the ATO applies the results test in practice, consult the ATO's Personal Services Income guidance.
If PSI rules apply to your income, your choice of business structure becomes less flexible, but you still have options. Understanding the tax and practical implications of each structure helps you make an informed decision that aligns with your business goals.
Option 1: Sole Trader
Operating as a sole trader is the simplest structure if your income is PSI. You report your income and claim deductions on your personal tax return. There is no separate entity, no company tax, and no Division 7A concerns. You claim the standard business deductions available, subject to the Division 85 restrictions on certain PSI-related expenses. Your superannuation is managed through personal contributions (tax-deductible up to $30,000 per annum for 2025-26) or concessional contributions made by others, though you will not have a super guarantee obligation as you are self-employed.
The downside is that you have no liability protection. If a client sues you for negligence or breach of contract, your personal assets are at risk. Many subcontractors in high-risk industries such as construction choose a different structure for asset protection reasons.
Option 2: Private Company (with PSI Income)
Operating through a private company is still viable even if your income is PSI, though the tax benefits are reduced compared to a company with non-PSI business income. The key advantage is liability protection: if a client sues, their claim is against the company, not your personal assets. This is crucial in construction and allied trades where defects or accidents can trigger lawsuits.
However, the PSI income itself must be attributed to you under Division 86 and assessed at your individual marginal tax rates. This effectively removes the tax deferral benefit of operating through a company. Division 7A anti-avoidance rules are a separate risk when operating PSI through a company. Division 7A applies to certain payments, loans, and forgiven debts made by a private company to shareholders or their associates. If the company makes a payment or loan to you that is not a compliant dividend or a loan on Division 7A terms (with a written agreement, minimum interest rate, and maximum term), the ATO may deem the amount to be an unfranked dividend. This can result in unexpected tax liabilities. Careful management of drawings, loan accounts, and distributions is essential when PSI is earned through a company structure.
A company structure is worthwhile if you also operate non-PSI income streams (e.g., renting equipment, selling products, managing other subcontractors). The non-PSI income retains the benefit of the lower company tax rate.
Option 3: Discretionary Trust
A discretionary trust can operate your business and provide some flexibility in income distribution. However, PSI income cannot be split among multiple beneficiaries at lower tax rates; it must be allocated to the individual who performed the work. The trust offers flexibility in retaining or distributing non-PSI income and provides some asset protection if structured correctly, but it is more complex and costly to administer than a sole trade or company.
Trusts are popular in family businesses where multiple family members contribute to the work or where you want to hold business assets separate from operational income.
Practical Structuring Strategy
In our experience advising Melbourne subcontractors, the most common successful structure for PSI earners is a private company that combines PSI income (your personal labour) with non-PSI income streams. For example, a construction subcontractor might earn PSI from on-site work but also generate non-PSI income from hiring and managing other tradespeople, renting equipment, or providing training. The non-PSI component retains the corporate tax rate benefit, which offsets the higher personal rate on the PSI portion.
Alternatively, if you earn exclusively PSI and liability protection is important, a company with careful Division 7A tax planning can still provide value. If you earn exclusively PSI and liability is not a concern, sole trader operation is simpler and more tax-efficient.
For tailored advice on structuring your business given your PSI situation, explore our tax planning services or business tax services.
Our team of CPAs at 42 Advisory are specialists in personal services income rules for subcontractors and tradies. Get in touch to discuss your structure.
Contact UsWhether super guarantee applies to a PSI worker depends on the contractual arrangement. If a contractor works under a contract that is wholly or principally for their labour, the payer may be required to pay SG under the extended definition of employee in the Superannuation Guarantee (Administration) Act 1992. PAYG withholding and voluntary super contributions may also apply depending on the operating structure.
PSI classification affects not only income tax but also superannuation and PAYG withholding obligations. Understanding these impacts ensures you remain compliant and maximise your retirement savings.
Superannuation Guarantee and PSI
PSI classification alone does not determine your superannuation guarantee (SG) obligations. Even if your income is PSI, the payer may still be required to pay SG if your contract is wholly or principally for your labour. Under section 12(3) of the Superannuation Guarantee (Administration) Act 1992, a person working under such a contract is treated as an employee for SG purposes, regardless of their ABN or contractor status. Since 1 July 2022, there is no minimum earnings threshold for SG; the former $450 per month threshold has been removed.
However, if the contract is with a company, trust, or partnership (rather than directly with the individual providing the labour), SG does not apply to the entity. If you operate a company and employ yourself, or if you employ other people, you must pay SG on those wages. Additionally, if you earn income as an employee (e.g., you are a part-time employee and also a subcontractor), your employer must pay SG on your employee portion.
As a PSI earner, you are responsible for building your own superannuation. You can make voluntary concessional contributions (up to $30,000 for 2025-26) which are deductible against your PSI income, effectively receiving a tax deduction at your marginal rate. You can also make non-concessional contributions (up to $120,000 for 2025-26, subject to your total superannuation balance) if you have surplus cash flow. These caps are subject to change â verify against the ATO's key super rates and thresholds before relying on them.
PAYG Withholding
If you are a PSI worker operating as a sole trader or partner, you do not have PAYG withholding obligations unless you employ others. You are responsible for paying your own tax through quarterly instalments (PAYG instalments) or on your annual tax return.
If you operate through a company, the PAYG treatment of amounts paid from the company in respect of attributed PSI depends on the legal character of the payment. Whether withholding applies requires analysis of the specific arrangement. If the company also employs you (which is unusual but possible), PAYG withholding applies to your employment income. Professional advice is recommended on the PAYG treatment of PSI distributions.
Some clients or labour hire providers may mistakenly withhold tax from payments to contractors, treating them as employees. If this occurs, you should request a tax file number declaration and clarify your status as a contractor. If tax is incorrectly withheld, you can claim a credit when you lodge your tax return.
For detailed guidance on superannuation obligations for contractors, consult the ATO's Superannuation Guide for Contractors.
Personal services income rules exist to prevent tax avoidance and income splitting arrangements that erode the tax base. The ATO's position is that income derived primarily from your personal effort should be taxed as if earned by the individual, regardless of the corporate vehicle through which you operate or invoice clients.
This policy reflects a wider principle: tax law should not allow you to access lower marginal rates or income-splitting benefits simply by changing the legal structure through which you operate if the underlying economic reality is that you are providing personal labour.
At the same time, the four statutory tests (results test, unrelated clients test, employment test, and business premises test) recognise that some individuals who earn income from personal services are running genuine businesses that warrant standard business tax treatment. If you can demonstrate you have moved beyond selling your time and have built a business with employees, capital investment, multiple clients, or a physical premises, PSI rules do not apply.
For construction subcontractors, tradies, consultants, and professionals, navigating PSI rules is a critical aspect of tax planning. The difference between being classified as PSI and non-PSI can result in thousands of dollars in additional tax per year, so getting it right is important.
We recommend that if you are unsure whether PSI rules apply to your income, you seek advice from a qualified CPA or tax agent before structuring your business. A small investment in advice upfront can save you significant tax bills and audit risk later.
Source: ABS, Characteristics of Employment, Australia, August 2025
Let 42 Advisory review your current business structure and discuss PSI implications for your tax position. Schedule a free initial meeting today.
Book a Free Initial MeetingThe core PSI definition is in section 84-5 of the ITAA 1997. Income is PSI where it is mainly a reward for your personal efforts or skills. In practice, if more than 50% of your income from a contract is generated by your labour, skill or expertise, the income is likely to be PSI. This is the first step in the ATO's assessment, but being classified as PSI does not automatically mean the adverse rules apply; the next question is whether you qualify as a personal services business under Division 87.
Yes. If your company pays a sole trader (or any contractor) for work, and that contractor's income is classified as PSI, the PSI rules apply to the contractor's income. The fact that payment comes from a company does not change the nature of the income or exempt the contractor from PSI rules. The contractor must report the income as PSI on their personal tax return and comply with the applicable Division 85, 86 and 87 provisions. The payer should consider its obligations under the PAYG framework and, for relevant industries, the Taxable Payments Annual Report (TPAR) requirements.
The results test is one of four statutory tests in Division 87 of the ITAA 1997 used to determine whether you operate a personal services business (and thus avoid PSI restrictions). Broadly, it requires that for at least 75% of the PSI, you are paid to produce a specific result, you provide your own tools and equipment, and you are liable to rectify defects at your own cost. Passing the results test allows you to self-assess as a PSB.
PSI classification alone does not determine SG obligations. If you work under a contract that is wholly or principally for your labour, the payer may be required to pay SG under the extended employee definition in the Superannuation Guarantee (Administration) Act 1992. If SG does not apply (for example, because your contract is with a company or trust), you are responsible for funding your own superannuation. You can make tax-deductible concessional contributions (up to $30,000 for 2025-26) which reduce your assessable income, and non-concessional contributions (up to $120,000 for 2025-26). These caps are subject to change â verify against the ATO's key super rates and thresholds. If you also earn income as an employee, your employer must pay SG on the employee portion.
You can apply to the ATO for a personal services business (PSB) determination under Subdivision 87-B of the ITAA 1997. Specifically, section 87-70 allows an individual or a personal services entity to apply to the Commissioner in the approved form for a PSB determination. The Commissioner may then make a determination under section 87-60 if satisfied the relevant conditions are met. If the Commissioner does not decide your application within 60 days, you may treat it as refused. Alternatively, you can self-assess your PSB status by applying the four tests and lodging your tax return accordingly. If the ATO disagrees with your self-assessment, they may review or audit your position. Seeking professional CPA advice before taking a position is recommended.
Disclaimer: The information provided in this article is general in nature and does not constitute specific tax, legal, or financial advice. We recommend seeking professional advice tailored to your individual circumstances. 42 Advisory is a CPA firm and Registered Tax Agent.
42 Advisory serves Melbourne and all of Australia, helping subcontractors, tradies, and professionals navigate personal services income rules. Whether you need advice on builders and tradies accounting, business structuring, or tax planning, we are here to help.