Tax Planning for Doctors and Lawyers

Author Alan Maddick 2nd March 2021

The allocation of profits in Professional Services Firm has a Rich History of Laws and Case Laws dating back to the 1950s and 1980s alongside the deregulation of many Professions. It is an area that I have worked actively in since starting my Practice. On of the issues is that the way the professions have handled the issue of Alienation of Personal Services Income and Profits have varied from Profession to Profession with Tax Planning for Lawyers and Tax Planning for Doctors in particular having unique treatments evolving for their professions.

Realising there was a wide variation between Tax Treatments and Outcomes across the Professions and Across Individual Firms and Practitioners the ATO started actively engaging Professional Services Firms and their Advisers over the last few years to try and develop clear guidance on what is allowable and what is not.

On one end of the spectrum we have some Professionals that treat their Business Income and PSI declaring 100% of their income on their personal return. On the other end of the spectrum we have Professionals who are streaming all or a large majority of their Income to Family Trusts and other structures reducing their Taxable Income down to artificially low levels.

To quote the Tax Office

” The use of companies, trusts and other business structures do not of themselves give rise to avoidance concerns. Further, the profit generated by the business may not be wholly generated by the individual and there may also be good non-tax reasons as to why the controller of a business receives significantly less of the business’ profits than would otherwise be the case. However, the use of those structures can provide the controllers of a business with an opportunity to redirect income from them. When the business involves the provision of services, we will be concerned with arrangements where the compensation received by the individual is artificially low while related entities benefit (or the individual ultimately benefits), and commercial reasons do not justify the arrangement.”

The ATO has recently released draft guidance PCG 2021/D2 to me this looks well written and does clarify the ATOs position. So what does it say;

The main message remains in line with other guidance published over the last few years – there should be a commercial reason for any structuring that is put in place and overall the average tax rates paid should not be too low.

There is quite a bit more detail in the draft guidance from the Tax Office which is great and gives everyone a lot more certainty. Some other key points;

  • The ATO acknowledges Professional Firms are different, with some firms generating a lot of revenue and profit from the actual Business itself while in others 100% of the revenue is generated by the Practitioner Owners. (and various blends of these scenarios)
  • Clear acknowledgement that if there is a commercial reason to retain profit in the firm then that is fine. For example it may be appropriate to hold back funds for cashflow needs or to hold back more profit than normal to save for a large renovation of the Practice Buildings. 

With this now Guidance its now possible to asses Practitioners and Firms to allow for a documented Risk Assessment, if you would like help conducting a Formal Assessment of your situation then please contact us.