ATO clarifies application of NALI changes
The ATO has released a draft companion ruling to further clarify the application of new non-arm’s length expense rules that are soon to become law, revealing that financial services professionals who provide services to their own SMSFs could in some cases cause the entirety of the fund’s income to attract the top marginal rate of tax.
The ruling provides examples where an asset within an SMSF incurs an expense that is not charged at market rates, which would then see any income generated by that asset treated as non-arm’s length income, while the asset would also be fully liable for capital gains tax when it was disposed of.
Importantly, the examples clarify that professionals such as accountants that engage their own business as a service provider to their SMSF, but do not charge commercial rates for the service, will see all the relevant income within their fund classified as NALI.
“For the 2020–2021 income year, Mikasa as trustee of her SMSF engages an accounting firm where she is partner to provide accounting services for the fund. The accounting firm does not charge the fund for those services,” one example states.
“For the purposes of proposed subsection 295-550(1), the scheme involves the SMSF acquiring the accounting services under a non-arm’s length arrangement. The non-arm’s length expenditure (being the nil amount incurred for the services) has a sufficient nexus with all of the ordinary and statutory income derived by the SMSF for the 2020–21 income year.
“As such, all of the SMSF’s income for the 2020–21 income year is NALI.”
However, a subsequent example clarifies that if such a professional were to provide the service for free in a personal capacity as trustee of the fund, the SMSF’s income would not be treated as NALI.
“Leonie is a trustee of an SMSF of which she is the sole member. She is a chartered accountant and registered tax agent who is employed in an accounting and tax agent business,” the example states.
“Leonie in her capacity as trustee prepares the accounts and annual return for the fund. She does not use the equipment or assets of her employer, nor does she lodge the annual return using her tax agent registration. As she performs these duties or services as the trustee of the SMSF, she does not charge the fund for this work.
“The non-arm’s length expenditure provisions do not apply as the duties or services performed by Leonie are in her capacity as trustee rather than under an arrangement in which parties are dealing with one another on a non-arm’s length basis.”
More certainty for trustees
SuperConcepts general manager of technical services and education Peter Burgess said the ruling provided welcome clarification on how the new rules would apply in a practical sense.
“If [trustees] use the equipment and other assets of their business to provide a service, or it’s covered by an insurance policy relating to their business, and they don’t charge their fund an arm’s-length fee, the NALI provisions will apply,” Mr Burgess said.
“This is highly fact-dependent, but I think it’s the most appropriate outcome and probably the only plausible outcome when you consider what these new provisions are trying to achieve.”
Mr Burgess said the possibility of the whole of a fund’s income being classified as NALI came as a surprise.
“This appears to be a departure from the explanatory materials released with the legislation and will have much broader application than first thought,” he said.
The changes to NALI rules, passed through Parliament last month, are yet to receive royal assent.