ABN v PAYG; What's the difference?
Comparing the differences between PAYG and ABN
Have you ever wondered about the differences between PAYG and independent (ABN) contractors? Perhaps you’ve sometimes pondered if you’re in the most beneficial setup? In this post I’ll explore the differences, with a laser focus on the costs and convenience factors associated with each.
Before I go any further, I need to let you know that the information provided in this article is general in nature and doesn’t consider your own objectives, financial situation, or specific needs. Please consider if this advice is appropriate for you before acting on it and seek professional financial advice if needed.
So, without further ado, let’s delve a bit deeper.
The surface-level differences
To briefly summarise the differences between the two, a PAYG contractor is treated as a regular employee of a company. This means the company does the work for you when it comes to pay day. They remove your tax, your super, then pay you your net wages.
The world of an ABN contractor is more complicated. You will have your own Proprietary Limited (PTY LTD) which you operate as a small, or microbusiness. You then take your contractor earnings into that ABN, as opposed to being paid as a regular employee.
PAYG costs
As a PAYG contractor, the fee to use our payroll service is 1.75% of your hourly or daily rate. This fee is a pretax expense further reducing your taxable income
ABN costs
There are many upfront costs involved with setting up an ABN. First, you will need to set up a company PTY LTD. Most recruiters will only work with PTY companies, due to the liabilities associated with working with someone with a partnership or sole trader ABN. The cost of setting this up can be anywhere between $1000-$2000 and requires the services of an accountant.
You must be registered for the Business Activity Statements (BAS) and Income Activity Statement (IAS) to be able to send PAYG to the ATO. Having a PTY also makes you a company director, meaning you’ll need to be aware of the compliance considerations associated with this. Then there’s insurance–you’ll need professional indemnity, public liability and workers compensation insurance.
The upfront costs involved in setting up an ABN would generally be around $3000. Then there’s the ongoing costs. If you have your own company, it’s highly recommended you engage bookkeeping services, which can cost around $500 a month–an important service to ensure you are compliant and all your debts are paid. We are servicing many companies in this way, and this is something we can help you with at Bookssorted.
You will also need to factor in the cost of a company tax return, which will cost between $1000-$2000.
Company and income tax
The prospect of paying less tax can be an alluring, yet misguided, one for contractors with an ABN setup.
Company tax applies to money that remains in a company at the End of Financial Year (EOFY) and exists on a sliding scale between 27%-30%. This figure moves each year.
Let us explore the fictional example of Joe the Contractor. Joe has $100,000 left in his company when his accountant does his tax at the EOFY and is informed there is a company tax of 30%, meaning he will pay $30,000. Joe may feel like he has dodged a bullet and is simply going to have to pay this 30% instead of his 48% marginal tax rate.
Unfortunately for Joe, there’s no avoiding marginal tax, and this will become apparent when he gets his individual tax done, as Joe has then taken the remaining $70,000.00 paying this to himself, the difference between the 30% tax already paid and Joes marginal rate of 48% i.e. 18% will be applied at tax time His accountant will see that , Joe has already paid 30% tax and that will be taken up as an input tax credit. This will result in Joe paying the outstanding 18% i.e. $48,000 in total. The result is he has received no tax savings.
Where an ABN works well
Having spoken about the costs and potential pitfalls involved of running an ABN, it’s time to talk about some situations where it’s advantageous.
Many people set up an ABN to satisfy a personal services income (PSI) as this piece of legislation works as a tax minimisation opportunity if you can prove to the ATO you have several streams of income. For example, if you’re developing apps on the side and people are buying them, that’s a completely different source of income to your contractor dollar which will typically come from a recruiter.
An ABN can also be advantageous if you are working directly to a client. By doing this, and bypassing the recruitment company, you can avoid paying payroll tax. This is possible if you go straight to the client (something that isn’t easy to do with government work) and your total wages are under the state government total threshold for payroll tax. This payroll tax applies on a sliding scale and currently sits between 4.5–7.33% here in the ACT. This scenario happens rarely, though, and there are many other factors which need to be satisfied.
So, back to PAYG, which does the hard work for you
At the end of the day, being a PAYG contractor with Bookssorted allows you to essentially set and forget. You send your timesheet in, we help you to maximise your pay with a swathe of salary sacrificing options, you only pay 1.75% on your hourly or daily rate, and you then receive your payslip and notification of your pay entering your account. No BAS, no bookkeeping costs, and all insurance included plus total maximisation of your pay all included in the1.75%. By working with us you are being guided by a team with 20 years’ experience–we do the work and absorb the risks for you.
Ultimately, the decision of whether to be a PAYG or ABN contractor is a decision only you can make, and we are here to guide and educate you on the potential benefits and pitfalls of both. We’d love to chat more with you about this, and how it aligns with your own personal circumstances – you can reach out to the team here.