NALI outcomes still unclear for certain related-party loans
While the ATO’s final ruling on non-arm’s length income suggests that previous fixes to get related-party loans on arm’s length terms will not prevent NALI, relief for SMSFs in this situation may still be a possibility, says a technical expert.
Back in July 2021, the ATO released LCR 2021/2 clarifying how the amendments to section 295-550 of the Income Tax Assessment Act 1997 (ITAA 1997) operate in a scheme where the parties do not deal with each other at arm’s length and the trustee of a complying superannuation entity incurs non-arm’s length expenditure (or where expenditure is not incurred) in gaining or producing ordinary or statutory income.
Speaking in a recent podcast, Colonial First State head of technical services Craig Day said applying the ATO’s ruling literally, SMSFs with a related-party limited recourse borrowing arrangement (LRBA) that was established many years ago at interest rates below market value will have a NALI issue even if they had fixed it to be in line with the ATO’s safe harbour guidelines.
“You can’t fix it, because the ruling says that if you enter into a non-arm’s length limited recourse borrowing arrangement, then all future income and capital gains will be NALI, and this cannot be rectified by refinancing the LRBA into a non-arm’s length arrangement,” explained Mr Day in a CFS FirstTech podcast.
Mr Day said the ruling outlines that as the asset was acquired on non-arm’s length terms upfront, it is tainted permanently.
“The interesting thing here is that when we go back to those 50-year LRBAs at zero interest rates with zero capital repayments until the end – so a contribution in anything but name – in those situations the ATO did catch up with people and put out [PCG 2016/5] that said if you’ve gone and done one of these things, we’ve now got these safe harbour requirements, you have to refinance into that safe harbour requirement, otherwise future income is going to be non-arm’s length income,” said Mr Day.
“So everyone went and refinanced. Now this ruling comes out, retrospectively, and says all of that fix you did was pointless because its going to be NALI anyway.”
Mr Dar said it is still a possibility that the government or ATO may release guidance that says that SMSFs who were caught in that original situation and rectified the loan so that it was on arm’s length terms won’t have that problem.
“[It’s unclear] whether or not the government or the ATO move on that and say well if you were caught in that original kind of situation before we clarified that non-arm’s length income would apply then as long as you refinanced in accordance with those instructions and met all the requirements, you’re okay. Maybe they might do that, but the way the ruling is currently written, it will always be NALI. I kind of think that they might, I don’t know,” said Mr Day.
“What I would say is that if you did enter a non-arm’s length limited recourse borrowing arrangement today and then thought to quickly refinance it to fix it – it’s too late, there’s nothing you can do.”
Miranda Brownlee is the deputy editor of SMSF Adviser, which is the leading source of news, strategy and educational content for professionals working in the SMSF sector.
Since joining the team in 2014, Miranda has been responsible for breaking some of the biggest superannuation stories in Australia, and has reported extensively on technical strategy and legislative updates. Miranda has also directed SMSF Adviser's print publication for several years.
Miranda also has broad business and financial services reporting experience, having written for titles including Investor Daily, ifa and Accountants Daily.