We’ve written before about using a family trust in your business, however despite the ATO’s recent controversial views, the humble family trust still has numerous benefits, particularly for medical professionals venturing into the world of private consulting.
Trust versus sole trader
The most common form of business structure for a medical professional moving into private consulting is a sole trader. This structure is basically you operating as an ABN independent contractor.
The primary benefit of this business structure is the ease to set up– jump online to apply for an ABN and off you go! When it comes to taxes, all sole trader income is added to your existing income and taxed at your marginal tax rate. For example, a specialist earning $250k salary receives an additional $50k of private consulting income as a sole trader would simply add the income together on their tax return and be taxed at 47% (top marginal rate) on the private consulting income – assuming no deductions.
However, you need to be cautious of the downsides of the sole trader structure, including the following well-known points:
- Unlimited personal liability as a sole trader, due to the party to the contractual agreement being you as an individual. This means any and all liabilities falls upon you. For a medical professional, this is very risky even with proper insurance, as you could potentially put your family home and private assets in the firing line of creditors and litigants.
- No opportunity whatsoever to split your income, since as a sole trader all income is earned by you as the individual and taxed accordingly. However, being in a trust structure (or company for that matter) does not necessarily give you a free pass to income split due to the ‘personal service income’ rules.
In addition to the above, a lesser known but equally significant point is the tax and financial benefits of government policies available to employers, more details later in the article.
What is ‘personal service income’?
Personal service income, or “PSI”, is income earned as a reward for an individual’s personal time and effort.
The rules around PSI were introduced to combat schemes where an individual contracts their services through a company or trust, with the intention of diverting their income to another person or entity and the income is taxed at a lower rate. The PSI rules ensure this type of income is instead tied to the person who derived it, so that person is taxed as if they had earned the income themselves (i.e. same as a sole trader).
Because a medical professional’s private consulting income is almost always PSI, for income tax purposes whether the income was earned through a trust (or company) makes no difference versus if it was earned as a sole trader.
“Hang on a minute!” you may be wondering, “If there is no tax benefit from income splitting, why should I consider a trust structure?” The answer to that is the other tax and financial benefits, which you are much less likely to benefit from as a sole trader.
Becoming an employee again
You’ll no doubt have heard motivational stories about becoming your own boss and making your own destiny, so why would anyone willingly become an employee again?
The devil is in the detail and what we mean is for you to become an employee of your own business – you still have total control of who you contract your services to, but you engage with your clients not as an individual rather as a trustee of a trust.
Why do we recommend becoming an employee? The Government (of both flavours) has shown time and time again they are much more willing to introduce policies supporting businessowners rather than directly supporting individual persons (whom may be employees or sole traders). Take these examples to prove our point:
- The single the biggest government support program Australia had ever seen – JobKeeper – was specifically designed to support employees through assistance payments made to employers. While sole traders were also eligible, it was limited to only eligible employees of the business and the sole trader themself – family members and related persons who work for the sole trader, but does not qualify as an employee, could not receive any benefit from the JobKeeper program.
- Together with JobKeeper, the government also introduced the Cash Flow Boost payment, which was again designed to support employers by giving a rebate towards the amount of withholding taxes payable on employee wages. There was a minimum $20,000 benefit provided, but it was only available to businesses that paid wages. As sole traders are not able to pay wages to themselves, they missed out on this government benefit.
- The recent electric car discount bill, which seeks to legislate tax exemptions to make electric cars more affordable, was again targeted at employers by exempting fringe benefits tax so employers won’t have any tax cost providing eligible cars to their employees. This means businessowners who are in a sole trader structure would again miss out.
- Other generous fringe benefits tax provisions allow small employers to provide a number of tax-free benefits to employees while still getting a tax deduction, some of these includes significant advantages to motor vehicles provided for private use. Since a sole trader cannot “employ” themself, they miss out on these tax benefits.
There are numerous other smaller benefits employers enjoy over sole traders, far too many to discuss in this article.
What action should I take?
If you are an associate doctor or contracting in private practice, it is never too soon to get professional advice in setting up a proper fit-for-purpose business structure.
While it may seem easy to just go with the sole trader option, setting up the right structure from the start means there’s less chance of missing out on opportunities down the track. After all, you haven’t arrived at the current point in your career by taking the ‘easy path’, so why not the same approach towards your business and financial goals?
Prosperity Health, a division of Prosperity Advisers Group, has helped hundreds of medical professionals just like you in securing your financial future by ensuring you have the best tax and financial advisers by your side as you venture into the world of business. Come and speak with one of our professional advisers and ask about our “PSI Trust” package.
If you have any questions regarding the above, contact Director of Business Services and Taxation Brendan Campbell at bcampbell@prosperity.com.au. Alternatively, we have Specialist Health Sector Advisers in each of our offices. If you would like to speak to one in your location, call 1300 795 515.
