Private ruling: Personal services income - unrelated clients test
Published: July 2014
Ruling period: Year ended 30 June 2013
Date scheme commenced: 1 July 2012

Ruling: Question and answer | For the purposes of the personal services income provisions of the Income Tax Assessment Act 1997 , do you meet the unrelated clients test? | No.

Relevant facts and circumstances: You provide the consultancy services of an individual to clients in a particular industry. The income you earn is personal services income (PSI). You have stated that the contracts you obtained in the relevant year were through contacts you had from your previous years in the industry. You had previously worked for various companies in the industry. You have stated that networking and word of mouth is very important. Social media was another facility you used to stay in contact with industry representatives of different companies for work opportunities. You have contacts you keep in touch with at many companies in the industry. You state that people in the industry keep in contact as they move through different companies. You maintain contact with people you started work with many years ago. You state that the advertisement of your business was usually done through phone calls, emails, site visits, (you left company insignia pens, business cards) and via Social media on internet. You kept abreast of opportunities this way, offering your services. In the relevant year, you entered into three work contracts, of which two contracts were with Company X and one contract was with Company Y. You had previously completed work for Company X as a subcontractor in the previous income year. You informed the director of Company X that you were trying to expand your business and gave the director your business card. The general manager of another company approached Company X to undertake particular work. Company X asked you to provide your services to complete this work. You accepted this contract. The only parties to the contract were you and Company X. The contract stated that the principal consultant will report directly to Company X's managing director. A representative of another company, who you had previously worked with on another project several years ago, contacted you and asked you to undertake particular work. You were asked if you could subcontract though another entity. Company X was available so you worked as a subcontractor for Company X undertaking the work for this company. The only parties to the contract were you and Company X. The contract stated that the principal consultant will report directly to Company X's managing director. You had been in contact with Company Y in 20XX seeking work opportunities. You were contacted a few weeks later asking your availability to undertake particular work. You accepted this contract. Less than 80% of your PSI was from either Company X or Company Y. You have asked the Commissioner to only consider the unrelated clients test.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 87-20. | Income Tax Assessment Act 1936 Section 318.

Reasons for decision: Detailed Reasoning - Unrelated clients test: The unrelated clients test as set out in section 87-20 of the ITAA 1997 provides: 1) An individual or a personal services entity meets the unrelated clients test in an income year if: a) during the year, the individual or personal services entity gains or produces income from providing services to 2 or more entities that are not associates of each other, and are not associates of the individual or of the personal services entity; and b) the services are provided as a direct result of the individual or the personal services entity making offers or invitations (for example, by advertising), to the public at large or to a section of the public, to provide the services. 2) The individual or personal services entity is not treated, for the purposes of paragraph (1)(b), as having made offers or invitations to provide services merely by being available to provide the services through an entity that conducts a business of arranging for persons to provide services directly for clients of the entity. | Detailed Reasoning - Associates: Whether two entities or individuals are associated within the meaning of section 318 of the Income Tax Assessment Act 1936 (ITAA 1936) is a matter of fact. However, where the fact of that association is not known or could not reasonably be expected to be known to a contractor, the clients will be treated as unrelated. | Detailed Reasoning - Direct result: The term direct result requires a traceable and substantive connection between the offer to the public (or a section of the public) and the engagement for the work. | Detailed Reasoning - Making offers or invitations: Making an offer or invitation to the public in general or to a section of the public is an indication by the individual or personal services entity of their willingness to perform services for anyone within a group or class of persons or to any member of the public. The intention of the individual or personal services entity in such activity is to attract or solicit members of the public to enter into agreements for their services. Relevant activities, such as advertising, points to the commerciality and independence of the enterprise conducted by the individual or the personal services entity. Advertising and similar activities are factors that point to the existence of a genuine business. As the phrase 'making offers or invitations' is not given in the ITAA 1997, for the purposes of the unrelated clients test the meaning is based on the ordinary usage of the terms and may include a wide variety of activities, including word of mouth attempts to attract general business. An invitation is the mechanism by which an individual or personal services entity holds out to or informs the public or a section of the public the services that the individual or personal services entity is able to provide. An invitation may be made in written or spoken form. Advertising is an example of making an offer or invitation to the public given in the legislation. Other types of activities or actions that are considered to be making offers or invitations in this context include: • public tender • maintaining an Internet web site on which the availability of services are advertised, and • word of mouth offers. | Detailed Reasoning - The public or a section of the public: An offer or invitation is made to the public at large where any interested member of the public is capable of accepting it. An offer or invitation to a section of the public is made in situations where only a select group is chosen to whom the invitation is made. Making an offer or invitation to a section of the public could include offering to provide services to one entity for example in relation to competitive tenders. For the purpose of the unrelated clients test, where there is a prior or subsisting relationship between the parties to an offer or invitation, the following factors are relevant when determining whether the offer or invitation is made to a section of the public: • The number of persons or entities to which the offer or invitation is made. While not determinative, it is likely to be a public offer or invitation if more entities are involved; • The nature and content of the offer or invitation. Where the offer or invitation is made as part of a competitive commercial process, such as a public tender, a prior relationship may not detract from the offer being made to the public; • The nature of the particular relationship between the parties to the offer or invitation. Where the parties to the relationship deal with each other on an arm's length basis, the commercial character of the transaction is maintained. Accordingly, the fact that an individual or personal services entity may have worked for/provided services to an entity sometime in the past does not necessarily operate to exclude the individual or personal services entity from satisfying this test. | Detailed Reasoning - A business of arranging for persons to provide services: An offer or invitation is not made by an individual or personal services entity that is merely available to provide services through an entity that conducts a business of arranging for persons to provide services to its clients. Individuals or personal services entities who obtain clients merely through registration with employment agencies, labour hire firms, personnel agencies or any arrangement involving an entity hiring the services of an individual or personal services entity in a manner similar to that of a labour hire firm, are taken not to have made an offer or invitation to provide services to the public at large or to a section of the public. This is to be contrasted with the situation where an individual or personal services entity makes offers or invitations to the public at large (e.g. by newspaper advertisement) as well as registering with a labour hire firm. The test would be met in this case if two or more unrelated clients engaged the individual or personal services entity as a result of the advertisement. | Detailed Reasoning - Application to your circumstances: You entered into three contracts to provide consultancy services. Two contracts were with Company X. Although you have argued that the two contracts with Company X constitute two different clients, the parties to both contracts are only you and Company X, and the contracts both clearly state that you are to report directly to Company X. Therefore, we consider that these two contracts are for the same client, although with a different end user. Although you have shown that you do offer your services in the industry and maintain contacts within the industry, we consider that you obtained Company X as a client due to your previous working relationship with them in the 20XX year, rather than by making an offer to the public. Therefore, you have not met paragraph 87-20(1)(b) of the ITAA 1997. Furthermore, the fact that you subcontracted with them in the 20XX year and then twice in the relevant year indicates that Company X is in the business of arranging for specialist consultants to provide services to their clients in the industry. In this case, even if you met paragraph 87-20(1)(b) of the ITAA 1997, you would not meet subsection 87-20(2) of the ITAA 1997. As you only had one other client than Company X in the relevant year, you therefore have not met the unrelated clients test.