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Medical Profession Spotlight – Getting Your Service Agreements Right

Revenue New South Wales is turning up the heat in the medical profession. This article offers practical advice on what Medical Practices should and shouldn’t include in their Service Agreements.

This article is part of a series developed specifically for Medical/Specialist Practice Owners. See also:

Smooth Transition to Retirement: Key Steps for Medical/Specialist Practice Owners In Business Succession Planning

Update: the New South Wales Court of Appeal handed down its decision last week (14 March 2023) in the appeal of Thomas and Naaz Pty Ltd v Chief Commissioner of State Revenue [2023] NSWCA 40. The decision being that the medical practice’s application for leave to appeal was dismissed and the Court of Appeal held that the original decision of the NCAT was correct.

End result: $800,000 remains payable as “taxable wages” pursuant to Section 35 of the Payroll Tax Act 2007 (NSW).

It is no secret to those in the medical profession that Revenue New South Wales is turning up the heat on service agreement arrangements and the collection of unpaid payroll taxes.

This article is therefore intended to offer practical advice on what Medical Practices should and shouldn’t include in their Service Agreements so that they can continue to take advantage of the tax benefits that service agreements and the principal/independent contractor arrangements afford them.

Recent Case Study

The latest shot in the war on service agreements was the Thomas and Naaz Pty Ltd v Chief Commissioner of State Revenue [2021] NSWCATAD 259 decision of last year. The result for that medical practice and the practitioners involved being $800,000 of payroll tax being due and payable.

The medical practice operated three medical centres and the doctors carried on their own businesses from these medical centres pursuant to service agreements.

It was a relatively standard service agreement arrangement whereby:

Written service agreements were in place between the medical practice and its contracted doctors.
The doctors operated under their own ABNs.
The medical practice provided consultation rooms, administrative and medical support services to the contracted doctors.
The doctors paid a 30% service fee for the services provided by the medical practice.
Invoicing and collection of fees occurred with the medical practice receiving all patient fees (and Medicare benefits), retaining 30% as a service fee and paying the balance of 70% to the applicable doctor.

Relatively standard stuff for a service agreement arrangement and this is why it is so concerning that the end result was Revenue NSW being able to collect $800,000 in unpaid payroll tax pursuant to the Payroll Tax Act.

How was Revenue NSW able to collect the $800,000?

In basic terms revenue NSW was able to argue that the payments made under service agreements were “taxable wages” under the state’s Payroll Tax Act. That is the service agreement arrangements in place, while intended to create a principal/independent contractor relationship, merged into that of an employer/employee relationship and therefore payroll tax was payable.

This was due in large part due to the fact that the service agreements in question contained:

requirements around work hours, shifts and rosters,
requirements to give notice to take leave,
requirements to abide by operating procedures specified by the medical practice,
obligations to promote the medical practice,
restrictive covenants such as non-compete and non-solicitation of patients,
ownership of patient records, and
patient fees were paid to the medical practice, and then to the doctors.

Common Law

One important point to consider in all of this is that the approach now being taken by Revenue NSW is not new. They are just turning up the heat.

This is because at law there is a long running a distinction between “contracts of service” and “contracts for service”.

A contract of service means that there is an employer/employee relationship, whereas a contract for services means that there is a principal/independent contractor relationship.

An employer/employee relationship attracts payroll tax.

A principal/independent contractor relationship does not (with each party being responsible for their own tax obligations).

As such for a service agreement to be considered a contract for service there are a variety of tests at common law that we can look to for guidance.

The Five Tests

1. Intention test – looks at the intentions of each party to the agreement as to the nature of the relationship. Industry practice has generally been an important factor to be considered in the context of the intention test, however as we have seen from recent cases brought my Revenue NSW (and other State Revenue departments), industry practice can be attacked.

2. Control test – examines the degree of control the person engaged to perform the services exerts over the manner in which the work is done. A high level of control supports the conclusion that the person engaged to perform the services is an employee.

3. Independence test – examines the level of independence the person engaged to perform the services exerts over their work. A high level of independence supports the conclusion that the person engaged to perform the services as an independent contractor.

4. Fundamental test – considers whether the person engaged to perform the services is doing so as a person in business on his or her own account. If the answer is “yes”, then this supports the conclusion that the person is an independent contractor; if the answer is “no” this supports the conclusion that the person is an employee.

5. Integration test – looks at whether the person engaged to perform the services is integrated into the business that hired him or her. If the person is integrated into the business, this supports the conclusion that he or she is an employee. By contrast, if the person is not integrated into the business, but rather an accessory to it, this supports the conclusion that he or she is an independent contractor.

What can you do to limit your potential liability?

Many are saying there is no right answer and to sit and wait until Revenue NSW issues its guidelines. We don’t agree. The NSW Revenue guidelines are likely to reflect their current audit approach as they have taken in cases like Thomas and Naaz.

You can therefore learn from Thomas and Naaz and long standing common law principles to take steps to protect you and your practice, now.

How? Review and amend your service agreements and your operating procedures. This is important because each case/audit will be decided on its own merits and factual basis, and it is therefore vital that you remove as many of the ‘non-complying’ elements of your practice as possible.

Do and Don’ts

Here is our list of points for you to action, now.

Action Points	Do	Do Not
Service Agreements	Have written service agreements in place with all practitioners contracted to the medical practice and regularly review and update them.	Rely on verbal agreements or out of date or expired contracts.
Following the written terms	Operate by the terms of the service agreement.	From a procedural and operating perspective, do not stray from the written terms of a service agreement.
Invoicing	Issue all invoices in the name of the practitioner and using the practitioner’s ABN.	Issue invoices in the name of the medical practice and using the medical practice’s ABN.
Patient fees	Best practice is for all patient fees to be paid directly to the practitioners own bank account. If fees are to be paid to a bank operated by the medical practice, they should be paid into a separate account used solely for this purpose and then held on trust for the applicable practitioner.	Intermingle multiple practitioners’ fees into one general bank account operated by the medical practice.
Hours of Work	Allow practitioners the ability to choose when they work, including the days and hours that they provide their services to their patients. There should be no minimum hours of work.	Prescribe hours of work, mandatory numbers of hours to be worked or set days to be worked.
Leave	Allow practitioners the ability to determine when they can take leave of the practice.	Avoid references to matters such as “4 weeks annual leave”, notice periods and the need to have leave approved. These read like a request an employee would make for leave, not an independent contractor.
Restraints of trade (non-competes)	Allow practitioners the ability to work for other businesses. Clearly state that the arrangement is non-exclusive and the practitioner is free to work when they want and elsewhere if they want.	Impose restraints and non-competes on the practitioner that “bind” them to the medical practice solely. A specialist should only be restricted from soliciting patients of other practitioners, staff and practitioners of the medical practice.
Promotion	Promote the medical practice as a place for patients to visit their medical practitioner.	Advertise the medical practice as the provider of the medical services and the specialist as a member of the business.
Patient records	Sate they are the property of the practitioner.	Sate they are the property of the medical practice.

Final Word

If you want to take advantage of the tax benefits that service agreements and the principal/independent contractor arrangement afford you, then you need to give up some of the control over the individual medial practitioner and various protections for the medical practice itself (control of fees and non-competes provisions being two of the most important).

So, pull out your service agreements, review them with your lawyer and accountant, amend them to be in line with our recommendations and put your new procedures in place, now.

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The information in this article is not legal advice and is intended to provide commentary and general information only. It should not be relied upon or used as a definitive or complete statement of the relevant law. You should obtain formal legal advice specific to your particular circumstance. Liability limited by a scheme approved under Professional Standards Legislation.