As confirmed by the ATO in late May, SMSF trustees have until 31 January next year to structure their LRBAs on commercial terms.
However, many SMSFs with related party loans may be lodging months before the January deadline, potentially before any necessary catch-up payments have been made.
Several SMSF Adviser readers have queried what the best approach for tax agents and auditors is if they have clients in these circumstances.
The ATO responded to SMSF Adviser with the following guidance:
If the ATO is asked to state its view formally (for example in a private ruling) our advice will be that, if at the time of lodgement of its 2016 SMSF annual return, an SMSF trustee has not taken action to ensure any LRBA in their fund is on terms consistent with an arm’s length dealing and the required catch-up payments have not been made, the relevant income is non-arm’s length income (NALI) and should be reported as such in the SMSF’s 2016 annual return.
However, consistent with the deadline that the ATO has provided for SMSF trustees to ensure that any LRBA arrangements in their fund are structured and maintained on arm’s length terms, the ATO will not be allocating compliance resources to reviewing the borrowing terms of a fund’s LRBA prior to 31 January 2017. On that basis, provided an SMSF’s LRBA is on terms consistent with an arm’s length dealing and the required catch-up payments are made by this date (31 January 2017), the fund is not at risk of ATO enforcement action with respect to this specific aspect of the fund’s income tax obligations.
Tax agents and auditors should ensure that they advise their clients of the consequences, including the strong likelihood of ATO compliance and enforcement action, if they do not take action to ensure any LRBA in their fund is on terms consistent with an arm’s length dealing and catch-up payments are not made by 31 January 2017. In cases where the necessary action has not been undertaken by 31 January 2017, tax agents and auditors should advise the SMSF trustee to take immediate action to amend any previously lodged 2016 SMSF annual return if it did not correctly report relevant income as non-arm’s length income (NALI).
Tax agents and auditors may wish to consider keeping a documented record of the advice they provide to any of their SMSF clients about this issue.
Speaking to SMSF Adviser, SuperConcepts’ Peter Burgess welcomed the ATO’s guidance, and said their approach makes sense in this circumstance.
“In situations where the fund’s annual return is being lodged before 31 January 2017 it provides trustees, tax agents and auditors with some certainty that the relevant income does not need to be reported as non-arm’s length even though the trustees may have taken no action to ensure the LRBA is on arm’s length terms at the time the 2016 SMSF annual return is lodged,” Mr Burgess said.
However, he stressed that in these situations, it would be prudent for tax agents to obtain written confirmation from the trustees that they do intend to take action before 31 January 2017 to ensure the LRBA comes within the safe harbour guidelines.
“If the trustees are not prepared to provide this confirmation and they don’t have a reasonably arguable case that the LRBA is arm’s length, then it would be wise for the tax agent to advise the trustees that they may need to seek an opinion from the ATO on whether the income is NALI prior to the lodgement of the fund’s 2016 SMSF annual return,” Mr Burgess said.
“Similarly, it would also need to be expressed to the trustees, if the SMSF annual return is lodged and they have provided written confirmation of their intention to come within the safe harbour guidelines but they don’t follow through on those intentions, an ATO opinion may need to be sought and any amendment could possibly have additional penalties applied.”