SMSF’s and Related Party Loans – the Saga Continues
The issue of related party loans to SMSF’s has been a hot topic over the last few years with the ATO expressing differing views through various mediums.
The release of the ATO ID 2010/162 expressed the view that borrowing from a related party on terms favourable to the SMSF was acceptable under the SIS ACT and would not result in any adverse issues.
While this position was warmly received across the SMSF industry, there remained a level of caution and a sense of uncertainty regarding the decision.
Industry caution was confirmed following a subsequent Private Binding Ruling confirming that the income received by a SMSF by virtue of entering into a related party loan to acquire an asset would be considered to be non arms length income and taxed at the top marginal rate.
Given the apparent conflicting views expressed by the ATO, uncertainty grew around whether a SMSF could enter into related party loans and if so, what the consequences were.
To address this uncertainty the ATO have recently released two ATO ID’s dealing with the issue. The view taken by the ATO was that where related party loans are considered to be non arms length, the income arising would be taxed at the top marginal rate and not receive the concessional rate of 15%.
To avoid the application of the non arms length income provisions, a fund trustee that enters into a related-party loan is required to obtain and keep documentation that enables the trustee to prove the loan is on an arm’s length basis.
The trustee will also be required to ensure that the ongoing operation of the loan remains on an arm’s length basis.
The criteria considered by the ATO in determining the arm’s length nature of a related party loan include the following:
Given the above guidance from the ATO, if SMSF trustee’s have entered into related party borrowings, consideration should be given to reviewing the terms and conditions of those loans to ensure that they meet the arm’s length criteria. As such related party borrowings are not prohibited, nor do they all result in non arms length income.
The cookie cutter approach does not hold to these types of arrangements – the specific facts and circumstances relevant to each case need to be considered.
Should you have any questions on the above, or which to discuss existing or proposed SMSF borrowing arrangements please contact your ESV engagement Partner on 9283 1666.
Article by David Prichard