Consistency needed when determining best methods for apportioning SMSF expenses

“Where a particular method of apportionment is selected, it should be applied consistently over the years, unless there is a specific reason to change methods,” SuperGuardian said.

“Several changes in methodology purely to provide an increased tax benefit to the fund could attract the attention of the auditor. The overriding outcome must be a ‘fair and reasonable’ approach. In conclusion, the claiming of a tax deduction should be considered carefully for each expense, and nature should always be kept in mind.”

When it comes to understanding the expenses during apportionment, SuperGuardian said they are generally tax-deductible when they are linked to gaining or producing assessable income. It is also noted when a retirement phase pension is commenced, the income from the underlying assets is treated as tax-exempt.

“Expenses that are incurred partly in producing assessable income and partly in producing non-assessable income must be apportioned to determine the deductible amount under section 8-1. The expense will only be deductible to the extent to which it is incurred in producing assessable income,” SuperGuardian said.

“To further complicate things, some expenses can still be claimed in full, such as the ATO supervisory levy and death/disability insurance premiums. Expenditure that is specifically deductible under section 25-5 (tax-related expenses) does not need to be apportioned. In short, in an SMSF where the fund is solely in accumulation phase, the eligible expenses can be treated as tax deductions.”

SuperGuardian said if the SMSF is completely supporting retirement phase pension accounts, then all of the expenses are treated as non-deductible.

“When an SMSF is receiving contributions and paying pensions (accumulation and retirement phase interests) in the same financial year, not all expenses can be treated as deductible or non-deductible, and the method for apportionment depends on the specific circumstances,” the education platform explained.

“Where this is the case, the expenses should be reviewed and classified as distinct and severable, or as indifferent expenses to determine their deductibility.”

Distinct, severable and indifferent expenses 

SuperGuardian said a distinct and severable expense is clearly identified as relating to an accumulation or retirement phase account, and this expense will always be treated as non-deductible as it does not relate to gaining or producing assessable income.

“Distinct and severable expenses are often easier to identify when a fund is segregated for tax purposes, as they will be paid from the relevant bank account linked to the accumulation or retirement phase account,” SuperGuardian said.

“For a distinct and severable expense where part clearly relates to producing assessable income and part does not, the expense is required to be apportioned based on the ratio of the part that relates to producing assessable income and the part that does not. This method of apportionment should be used where possible.”

Whereas for an indifferent expense, it is not clearly related to the accumulation or retirement accounts and will therefore be apportioned in the tax return between deductible and non-deductible amounts, according to SuperGuardian.

Considerations on methodology when apportioning 

When SMSFs apportion the expense, SuperGuardian noted that there is no single method; however, Taxation Ruling 93/17 provides examples and guidance to follow in apportioning expenses.

“A ‘fair and reasonable’ basis must be followed to determine the extent to which the expense relates to assessable income,” the platform said.

“The two generally accepted methods of apportionment are both income-based approaches which apportion investment expenses and general administrative expenses separately.

“However, they are not the only methods available and other methods are considered to be acceptable if ‘it can be demonstrated that they give a fair and reasonable assessment of the extent to which the outlay relates to assessable income.’”

The investment income approach uses the fund’s assessable investment income as a percentage of total investment income to calculate the deductible portion of investment expenses. Meanwhile, the general administration expenses approach uses the fund’s assessable income as a percentage of total income to calculate the deductible portion of expenses, SuperGuardian explained.

However, another “fair and reasonable” approach to apportioning expenses is where an actuary certificate is obtained by the fund for the relevant financial year.

“Where a fund is not segregated, the assets are ‘pooled’. When the assets are pooled, it cannot be determined if they support the accumulation or pension accounts,” SuperGuardian said.

“When it comes to the completion of the tax return, the trustees will engage an actuary to calculate the exempt current pension income (ECPI). This calculation is summarised on an actuarial certificate and displays the ECPI as a percentage of total income.

“The calculation is a daily weighted average of the unsegregated retirement phase liabilities dividend by the daily weighted average of the unsegregated superannuation liabilities.

“The simplest expense apportionment method is to use this ECPI percentage and apply it to the indifferent expenses. It should be noted that the simplest method will not always produce the best outcome, just the quickest.”