Profit allocation under PCG 2021/4 – are you ready?

Why this matters now

Now that the transitional period has ended, the ATO has announced that it will begin reviewing arrangements under PCG 2021/4 for the year ending 30 June 2025. The ATO have advised that they will act where they identify what they consider are high-risk arrangements that reduce an individual professional practitioner's tax liability.

While the PCG looks to the Individual Practice Partner (IPP), it is encouraged that firms should consider their role in assessing the firm’s equity arrangements and risk from a governance standpoint.

Recap on how the rules apply

For IPP’s to apply the PCG framework, arrangements must pass two critical gateways:

• Gateway 1: There is a sound commercial rationale for entering into and operating the arrangement or structure; and
• Gateway 2: There must not be certain ‘high-risk features’, as set out in the PCG.

If you pass, you then assess risk using:

• The proportion of profits returned to the IPP
• The effective tax rate across the IPP and related entities
• IPP remuneration against market benchmarks

These factors rate the arrangements as low, medium or high risk. This determines the appropriate compliance action the ATO will take.

What we’re seeing

• There have been some questions raised as to what constitutes an equity partner and some firms have left this to the partners to work out. This delegation of leadership on this issue may prove problematic, as while the PCG deals with the IPP the wider firm may still be impacted.
• The level of Audit Risk is escalating for firms as if one partner is audited, it is expected that others may be pulled in. The ATO is looking for consistency across the firm.
• Non-Equity Partners are exposed: The PCG excludes non-equity partners from its framework, meaning that income splitting here will attract higher scrutiny from the ATO.
• Documentation Is Non-Negotiable: Annual self-assessments and robust documentation are essential for IPPs and their firms to put in place.
• As a by-product, we are seeing firms review their equity model and align these with the firm’s growth strategies and equity culture. 

Risk of non-compliance

Non-compliance with PCG 2021/4 may expose professional services firms to heighted scrutiny from the ATO, including the possibility of targeted audits. These audits may not be limited to the IPP but could extend to other partners with similar profit-sharing arrangements.

Potential consequences for IPP also include financial penalties and fines. Firms should proactively assess their current structures to ensure they are operating within the bounds of PCG 2021/4 and are not inadvertently triggering compliance risks.

Recommendations

• Review your equity arrangements including to assess non equity arrangements
• Assess the risk of each partner
• Ensure your firm has a policy in place and documentation to support their assessment each year.
• Firms should proactively assess their current structures to ensure they are operating within the bounds of PCG 2021/4 and are not inadvertently triggering compliance risks.

We’re here to help

PCG 2021/4 is not just about compliance, it’s about firm governance and protecting your firm’s future. 

We encourage you to reach out to review or revisit your firm’s risk and ensure the necessary documentation is in place.

Learn more about how we can help with your needs

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