As we approach year end, now is the time for professional services firms to revisit their compliance with PCG 2021/4, if they are going to follow the guideline – but watch for unexpected outcomes.
This guideline from the ATO sets out its approach to assessing the risk of how profits are allocated in professional services firms. It encourages firms (that are not deriving personal services income) to assess their risk level annually using two main factors:
1. The proportion of an individual professional practitioner’s (IPP) share of practice profits that is included in their personal tax return; and
2. The effective tax rate paid by the IPP and their related entities.
As you’d expect, the more income disclosed in the IPP’s return and the higher the tax paid, the lower the ATO’s perceived risk.
But here’s the catch—changes in profitability, family structures, or ownership composition can shift an IPP’s risk rating even if nothing motivated by tax saving has occurred. For example, a drop in practice profits might unexpectedly push an IPP from the green zone into amber or red. That’s just how the maths in the PCG works.
I also note that the PCG (published in 2021) does not make any adjustments for tax rate changes.
It’s also quite common for IPPs in the same firm to fall into different zones. Some firms are comfortable with that. Others may prefer that all partners are within the green zone, which raises a governance question: are IPPs willing to share personal details about their structures to make that happen?
This is a discussion worth having now. And if confidentiality is a concern, engaging an external advisor to perform the calculations might be the best way forward.
I am currently preparing a 3-part video series on PCG 2021/4 for my website members. Parts 1 and 2 are finished and Part 3 is coming soon.