Allocation of professional firm profit – Impacts on medical practices

The Australian Taxation Office (ATO) has released a draft Practical Compliance Guideline (PCG 2021/D2) regarding the ATO compliance approach for the allocation of professional firm profits. The guideline aims to help practices self-assess their compliance risk against risk assessment factors. PCG 2021/D2 replaces previous guidelines that the ATO suspended on 14 December 2017.  

What medical practices should do

This guideline, once finalised, is intended to apply to medical practices, so it is important to understand the detail.

There are two stages to the analysis of your practice’s arrangements in accordance with the draft guidelines.

The first step is considering whether a practice’s arrangements pass the two ‘gateways’ outlined by the ATO. These are whether the arrangements operate in a way that is commercially driven, and whether the arrangements include any high-risk features, such as non-compliance with specific anti-avoidance provisions or bad tax behaviour that the ATO has flagged by way of taxpayer alerts.

The next step then requires the medical practitioner to apply the ATO’s risk-rating scorecard approach detailed in the guideline, to determine their risk zone. Three risk zones are outlined - low, moderate and high – each with varying degrees of ATO treatment.

A low risk score is optimal, as scores outside this zone could attract more interest and likely review or audit from the ATO.

The guideline in action – example arrangement

The ATO’s primary focus is on situations where an individual practitioner redirects their earnings to another associated individual or entity, thereby lowering their effective tax rate.

As an example of this type of arrangement, a medical practice may operate through a medical practice company and a related service trust. Profits of the service trust may be allocated to a spouse or adult children who are in a lower tax bracket, whereas the net profit of the medical practice company generally has to be paid to the practitioner.  In this situation, the combined arrangement could come under ATO scrutiny if the percentage of the overall income returned by the individual practitioner and the effective tax rate on the overall practice income do not fit into the ATO‘s low risk zone.

BDO comment

The new guidelines are a significant departure from the arrangements that the ATO has historically accepted. Medical practitioners and their practice entities would be wise to review their likely risk rating under the new guidelines – while bearing in mind that they are still in a draft form.

Keeping you informed

BDO is monitoring the development of PCG 2021/D2, to determine how the guidelines will impact medical practices. Once finalised, the guideline will apply prospectively from 1 July 2021.

If you would like to assess your level of risk or would like to know what steps to take to reduce it, please contact your local BDO adviser.