Navigating PSI (Personal Services Income) rules in Australia — The Story of Beatrice the UX Designer

Ever wondered if your freelance gigs, design work, or side hustle might be caught under the ATO’s Personal Services Income (PSI) rules? You’re not alone.

In Australia, if most of your income comes from your personal skills and effort, the ATO may classify it as PSI - not to trap you, but to make sure there’s fair tax treatment (especially when people use companies or trusts mainly to lower their tax).

Let’s make this easy - and fun (well, more fun than it should be!) - to understand.

We’ll walk through a real-world story of Beatrice, a User Experience (UX) designer who starts as a sole trader, quickly expands her client base, and eventually operates a full design business through a company. Along the way, we’ll see how her income gets defined as PSI, and how the PSB tests (Results, the 80% rule, Unrelated Clients, Employment, and Business Premises) apply at every stage.

Quick Summary:

What is PSI?
Income mainly from your own skills, effort, or expertise (over 50% of the value).

Who it affects:
Freelancers, contractors, consultants, creatives, specialists – anyone paid for their personal effort.

Purpose of the PSI rules:
To stop income-splitting through structures like companies or trusts and to limit the deductions for employee-like contracting workers.

Business structure doesn’t matter:
PSI rules apply whether you’re a sole trader or have a company, trust, or partnership – the income’s still attributed to you.

How to avoid PSI restrictions:
If you pass any of the Personal Services Business (PSB) tests (these are called: Results, the 80% rule, Unrelated Clients, Employment, and Business Premises), the PSI rules probably won’t apply to you.

Understanding PSI and PSB — before we dive into Beatrice’s story

Before we get into Beatrice’s journey, let’s quickly look at two key ATO concepts: Personal Services Income (PSI) and Personal Services Business (PSB).

Personal Services Income (PSI) is income that’s mainly a reward for your own personal skills or effort. It’s common for freelancers, consultants, specialists and creatives - think designers, engineers, consultants, and contractors who get paid for the work they personally do. The PSI rules don’t affect you if you're an employee receiving only salary or wages.

If you earn PSI, special tax rules apply to prevent you from “splitting” that income through a company, trust, or partnership to reduce tax. In other words, the ATO will generally attribute that income back to you, the person who did the work, and the deductions you can claim against this income are limited too.

However, you can qualify as a Personal Services Business (PSB) if you meet certain tests. If you do, the PSI rules won’t apply, and you can treat your income more like business income.

Here are the four PSB tests the ATO uses:

Results test - To pass this test, you need to meet all 3 of the following conditions for at least 75% of your PSI you earned:

Unrelated clients test - You get income from two or more unrelated clients (and their associates).

Employment test - You hire others (employees or contractors) to do at least 20% of the principal work.

Business premises test - You keep business premises that are separate from your home and clients’ premises.

You can self-assess as a Personal Services Business (PSB) if either:

If you can’t self-assess as a PSB, you may be able to apply for a PSB determination (PSBD) from the ATO.

What to Do If the PSI Rules Don’t Apply

Even if the PSI rules don’t apply to your income, you still need to declare all your Personal Services Income (PSI) on your tax return. This means reporting your earnings just like any other business or personal income. When the rules don’t apply, you can generally claim the full range of deductions that relate to earning the income, without the limitations that usually apply under the PSI rules.

What to Do If the PSI Rules Do Apply

If the PSI rules apply to you, you’ve got to follow steps to comply with the ATO’s requirements. First, attribute the PSI to the person who performed the work - that’s usually you - even if the income was paid to a company, trust, or partnership. Next, calculate your net PSI by deducting only the expenses allowed under the PSI rules, which are generally limited to those an employee could claim.

You may also have additional PAYG withholding or instalment obligations if the PSI received by your business wasn’t promptly paid as salary or wages to the person doing the work. “Promptly paid” means paying the amount by the 14th day after the relevant PAYG payment period in which the PSI was received.

Navigating the PSI rules can feel very tricky, but the ATO’s got plenty of detailed guidance if you need it. 

Next, we follow Beatrice’s story to see how the rules play out in real life - and what it means for her taxes along the way.

Beatrice’s Journey: UX Designer Turned Business Owner

Stage 1: From Employee to Sole Trader (2023)

Beatrice used to work as a UX designer for a software company X Pty Ltd, creating user workflows and interfaces. She wanted more control over her projects, so she became a sole trader, contracting back to the same company. She provides design services exclusively for X Pty Ltd, working in her home office (a spare bedroom) and using a combination of her own laptop and the company’s software subscriptions. Beatrice’s paid hourly, has to fix errors when requested, and adjusts her designs according to the company’s feedback.

PSI and PSB Considerations

Results test – Beatrice fails ❌
To pass the Results test, three conditions have to be met:

Beatrice doesn’t meet the first two conditions: she’s paid by the hour, not for a specific deliverable, and she relies on X Pty Ltd’s software subscriptions rather than fully supplying her own tools. While she fixes mistakes and uses her laptop, her liability’s limited, as she isn’t responsible for the cost of software subscriptions or other business overheads.

That means Beatrice can’t self-assess as a Personal Services Business (PSB) under the Results test.

Additionally, since all of her PSI comes from a single client (X Pty Ltd), she can’t rely on the other PSB tests (Unrelated Clients, Employment, Business Premises) to qualify. She’ll need to report this income on her personal tax return as PSI income, and only limited deductions - directly related to earning the PSI - are allowed.

Other considerations: She needs to register for GST if turnover hits $75,000.

Stage 2: Growing Clients and Setting Up a Company (2024)

Beatrice’s freelance work is picking up. She’s recently secured a second client, Y Pty Ltd, referred by X Pty Ltd. Both businesses engage her for UX design services. She still works hourly from her home office using her own laptop, although she still relies on her clients’ software subscriptions to complete design tasks.

Encouraged by her growing workload - and hearing that “setting up a company can save tax” — Beatrice registers Beatrice Designs Pty Ltd. She plans to pay herself a salary and bring her partner, Henry, on board to help with administration, handling invoicing, emails, and client calls while she focuses on design work.

Over the year, the company earns (GST excl.):

Total Income: $170,000

Beatrice paid herself $50,000 in wages to cover living expenses and reported $6,800 in PAYGW (tax withheld on wages) via the company's quarterly BAS (Business Activity Statement). No other business expenses have occurred. At the end of the financial year, she plans to pay Henry wages to make use of his tax-free threshold and reduce their overall tax position. Before going ahead, she consults an accountant - only to be shocked by the impact of PSI rules.

PSI and PSB Considerations

Results test – Beatrice fails ❌
Beatrice’s still paid by the hour rather than for a specific result. She uses her own laptop, but she relies on client subscriptions for design tools and isn’t fully responsible for business overheads. Therefore, she fails the Results test.

80% rule – Beatrice passes ✅
With multiple clients and no single client providing more than 80% of her PSI, she can consider other PSB tests (Unrelated Clients, Employment, and Business Premises) to see if she can qualify as a Personal Services Business (PSB) to avoid PSI rules.

Unrelated clients test - Beatrice fails ❌
To pass this test, Beatrice must:

Although Beatrice now works for two unrelated clients, both came through a referral - not from a public advertisement or tender. According to the ATO, “word-of-mouth referrals alone do not meet this test” unless you’re in a highly specialised niche industry. Because of this, her income’s likely to fail this test.

Employment test – Beatrice fails ❌
Your business must employ or contract others to do at least 20% of the principal work that generates your PSI. Henry’s work is administrative, not work that generates PSI.

Business premises test – Beatrice fails ❌
Beatrice continues to work from her home office, not separate business premises.

Tax implications

Beatrice has failed to establish her business as a PSB. This means the net PSI earned through Beatrice Designs Pty Ltd will still be attributed back to her personally. Deductions are limited under PSI rules, and the salary and super she plans to pay Henry can’t be claimed.

Here’s how this works in practice: Beatrice calculates her net PSI: $170,000 income minus $50,000 salary = $120,000 net PSI.
She has to lodge both a personal income tax return and a company tax return.

In her Personal Tax Return, Beatrice reports:

A note on deduction limitation:
Beatrice can’t claim deductions for:

How Beatrice Designs Pty Ltd Reports PSI

The company reports the $120,000 of attributed PSI as a reconciliation item under “Other income not included in assessable income”. This excludes it from the company’s assessable income, and the PSI section’s completed accordingly. This makes sure it complies with PSI rules while avoiding double taxation.

Interaction with Superannuation Guarantee (SG)

According to ATO ID 2015/9, when a company earns PSI and the income’s merely attributed to the worker (not actually paid as wages), SG obligations don’t generally arise. SG only applies when the worker actually receives wages or salary.

In Beatrice’s case:

The superannuation contributions are generally deductible and can reduce net PSI, provided the payments are made on time and meet the requirements under the Superannuation Guarantee (Administration) Act 1992.

If Beatrice hadn’t paid herself any wages and simply attributed the $170,000 back at year-end, no SG would be triggered, because no actual payment was made for principal work.

PAYGW Obligations

When your business earns Personal Services Income (PSI) and the PSI rules apply, the income has to be declared by the person who actually did the work - in Beatrice’s case, that’s her. This affects how PAYG withholding (PAYGW) works, depending on whether the income’s actually paid as salary or remains as “attributed PSI.”

A. Salary Paid Promptly (under 14 days after PAYG period)
Beatrice’s $50,000 salary was paid promptly, triggering normal PAYGW obligations. Her company correctly reported $6,800 via STP/BAS.

B. Attributed PSI (Not Paid Promptly)
The remaining $120,000 is treated as attributed PSI. Even though Beatrice didn’t receive it as wages, the company still needs to:

Stage 3: Expanding Through Advertising (2025)

Beatrice continues to grow her business and consults an accountant about PSI rules. She places ads on LinkedIn and Facebook and creates a website showcasing her work. She gets two new clients, Z Pty Ltd and A Pty Ltd. She’s still paid hourly for her UX design services and now fully relies on her own laptop, software subscriptions, and design tools.

To maintain efficient operations, Beatrice Designs Pty Ltd continues running smoothly. Henry supports administrative tasks, including invoicing, emails, and client calls.

Financial Year Overview:

Income (excl. GST):

Total Income: $220,000

Expenses (excl. GST):

Total Expense: $104,129

PSI and PSB Considerations:

Results test – Beatrice fails ❌ 

Beatrice’s still paid hourly, not for a specific outcome.

80% rule - Beatrice passes ✅
With plenty of clients and no single client providing more than 80% of her PSI, she passes the 80% rule and can consider other PSB tests.

Unrelated clients test - Beatrice passes ✅
Beatrice gained Z Pty Ltd and A Pty Ltd through public advertising, satisfying the “offer to the public” requirement. Also, clients X, Y, Z and A are unrelated and not associated with each other, meaning the unrelated clients test is met.

Employment test - Beatrice fails ❌
Beatrice does all principal work herself; Henry only handles administrative tasks.

Business premises test - Beatrice fails ❌
Beatrice works from home without separate business premises.

Tax Implications

Beatrice’s PSI now passes both the 80% rule and the unrelated clients test, which means she can self-assess as a Personal Services Business (PSB). As a result, the PSI rules no longer apply to her income.

This has several practical effects:

Practical tips to avoid the PSI rules

1. Aim to pass the Results test – get paid for outcomes, not hours
Structure contracts so you’re engaged to deliver a specific result (fixed price, milestones, completion deliverables), supply key tools/equipment where it makes sense, and accept liability to fix defects at your cost. If all three apply for most (that’s over 75%) of your PSI, you’re in the best position to show you’re running a business, not just selling time.

Practical moves: switch hourly billing to fixed-price or milestone fees; add deliverable and warranty clauses; show you provide core equipment/software (or why it isn’t needed).

2. Build a real client base - meet the Unrelated Clients test properly
Having more than one client isn’t enough. The ATO wants to see that clients came from you offering services to the public (not just word-of-mouth). Think visible, traceable marketing that directly leads to work.
Practical moves: advertise; keep records linking enquiries to ads or listings; use public proposals/tenders; save website/LinkedIn evidence and client emails showing how they found you.

3. Consider the Employment test - get others to do principal work
If at least 20% (by value) of the principal work is done by people you employ or contract (and you meet the 80% rule), you may pass this test. Admin support doesn’t count – it has to be core service delivery.
Practical moves: document tasks and timesheets showing who did what; use contracts with subcontractors/employees who produce deliverables, not just admin.

4. Get proper, separate business premises if it’s possible
To pass the Business Premises test, your premises must be separate from home and client sites and mainly used for your business.
Practical moves: lease or sublet a small studio, office, or exclusive long-term coworking desk; keep lease agreements and utility bills showing business use.

5. Keep client income under the 80% threshold (or apply for a PSBD)
If 80%+ of your PSI comes from one client (and associates), your options to rely on other PSB tests are restricted. Diversifying helps – if you genuinely can’t, a PSB Determination (PSBD) might be an option.
Practical moves: track income by client and their associates; plan marketing to reduce reliance on a single client; if you’re stuck with one, consider applying for a PSBD with solid evidence.

6. Document everything - the ATO wants evidence, not claims
Good records often decide PSI outcomes. The ATO looks at how you got work, who did it, the terms, and how costs were allocated.
Practical moves: keep contracts, proposals, emails, invoices, marketing screenshots, timesheets, employee/contractor agreements and proof of payment.

7. Use the ATO tools - decision tool and PSB determination
Before you restructure or rely on PSB status, use the ATO’s PSI decision tool and, if needed, the PSB determination process.
Practical moves: run the online PSI decision tool and save the output; if you’re borderline, apply for a PSBD.

8. Don’t treat the company as a tax-avoidance device
The PSI rules are anti–income splitting. You can’t just push PSI through a company or family members and expect to claim extra deductions, especially for non-principal work.
Practical moves: only pay associates for genuine, market-value services that contribute to principal work; keep clear role descriptions and timesheets.

9. If you can’t meet the tests, manage PSI compliance proactively
If PSI rules will apply, plan for them rather than hoping they don’t: attribute PSI correctly, stick to allowed (employee-style) deductions, and manage PAYG and cashflow.
Practical moves: talk to an accountant early; separate PSI from non-PSI income in your records; budget for extra PAYG and tax.

10. Get professional advice and re-test each year
The ATO’s guidance and your circumstances change over time, and PSI tests are applied each income year.
Practical moves: get a registered tax agent or adviser to review your setup annually and re-run the decision tool each year.