Compliance traps outlined with UPE reinvestment

Mr Fettes said while the ATO will allow for a small delay between the resolution to make a distribution in favour of a beneficiary and the payment of that amount, if the ATO considers the overall circumstances surrounding the non-payment of the distribution as an arrangement for the provision of credit or financial accommodation, the unpaid distribution will satisfy the extended definition of “loan” in subsection 10(1) of the SISA.

“UPEs owing to an SMSF should [therefore] be paid in a 9–12-month time frame, and prior to the annual return lodgement,” he said.

Aside from the physical payment of UPEs, Mr Fettes said there is also the option of reinvesting the UPE in a unit trust without a physical cash distribution in certain circumstances, which was confirmed by the ATO in SMSFD 2007/1.

SMSFD 2007/1 states that the SMSF may have requested that the dividend or trust distribution amount be applied or dealt with in some way by the company or trust, respectively, on its behalf.

“For example, the SMSF may have opted to have its dividends or trust distributions reinvested through a dividend or distribution reinvestment plan,” the SMSF determination states.

“Although the EM explains that ‘received’ means paid, it is used in contradistinction to an entitlement to a dividend or trust distribution. In the commissioner’s view, it is not meant to confine ‘received’ to only those circumstances where the dividend or trust distribution amount is actually paid to the SMSF.”

The commissioner’s view in the determination is that if an SMSF has requested that a dividend or trust distribution amount be applied or dealt with in some way on its behalf, the SMSF is taken to have received that amount as soon as it has been applied or dealt with as requested.

“For example, if a dividend or trust distribution amount is to be reinvested in the company or trust, respectively, the amount is received by the SMSF when the amount is appropriated for the purchase of additional shares or units, as appropriate,” it states.

“If a dividend or trust distribution amount is to be set off against a liability owing by the SMSF to the company or trust, respectively, the amount is received by the SMSF as soon as the set-off happens.”

Mr Fettes said this means a UPE can be set off against a liability owing by the SMSF to the trust for the reinvestment in that trust.

However, there are some important compliance aspects to consider where a client is considering a reinvestment, he warned.

“[For example], would the further investment be an allowable in-house asset and will the reinvestment give rise to a prohibited related-party acquisition?” Mr Fettes asked.

It is also important that the reinvestment occurs at market value in terms of the value of units and that its recorded properly, he explained.

“In many cases, that would likely involve the trust property being appropriately valued at market,” he said.

The reinvestment also needs to be consistent with the investment strategy of the fund, he added.

“Those are the sorts of things that you need to consider when you’re going down the path of reinvestment,” he said.