On 12 August, in response to the ATO’s recently-released final ruling on NALI and NALE, Tax & Super Australia’s Head of Superannuation, Natasha Panagis, ran a webinar on the topic.
Attended by several hundred professionals across Australia, the event generated a lot of questions which Natasha has answered – and we’re making these available to all the tax and super practitioners out there to help you in your practice.
If you’d like to purchase the recording of Natasha’s presentation, covering all the ins and outs on this important topic, you can do so here. (This purchase will give you ongoing access to the recording as well as a copy of the presentation slides.)
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1. Is this purely a tax grab from the ATO and has the ATO actually quantified the amount they are wishing to recover from this ruling?
We are unaware of the amount that may be recovered from this ruling.
Although we accept the underlying policy intent, which is to ensure all SMSF transactions occur on arm’s length terms, the penalty imposed on SMSF trustees who may not see the harm in entering arrangements with related parties on favourable terms to their SMSF can be very significant and grossly disproportionate.
In saying this, Tax & Super Australia along with other accounting and financial services bodies are making representations to Treasury about the lack of proportionality in of some of the outcomes. We are hoping to get the government to review these provisions to avoid any further concerns and confusion.
2. Would NALI apply to a dividend/distribution received from an unlisted investment that is part owned by a member of the SMSF? Does a certain percentage of ownership have to apply?
Any dividends/distributions (regardless of how big or small) received by an SMSF from a private company that was not paid on an arm’s length dealing can be treated as NALI. This means if the dividends/distributions paid to the SMSF were more generous than what would be expected on an arm’s length basis then NALI can apply.
3. I have a small home office practice. If I spread the cost of my accounting and tax software and my license costs to my SMSF and I perform work in my trustee capacity using my skills and knowledge and I do my own tax after office hours/weekend, would that be tenable option?
When it comes to clients who are doing work for their own fund, it is important to determine whether the work is done in their trustee or individual capacity, otherwise a NALE problem may arise.
The ruling states that services or work done in your trustee capacity will not give rise to NALI. This is because being a trustee usually involves unpaid work that can require a trustee to leverage particular skills that they may already have. For example, the NALE provisions will not apply where an accountant who is a trustee of their own SMSF acts in their trustee capacity to perform bookkeeping or accounting services for the fund for no remuneration.
However, the ruling is unclear on how the use of other business assets and equipment will be treated, particularly if the use of these business assets/equipment is relatively minor or incidental.
To minimise any NALE issues, you may wish to consider:
- Staying away from using business assets/equipment, or
- If you provide these services to your SMSF in your individual capacity, rather than “spreading the costs” of your accounting software and licence costs to your SMSF, you may wish to consider (as trustee) to charge a fee for the accounting services you provide to your SMSF in your individual capacity.
For more information, refer to:
- Slide 14 of the presentation which provides the exceptions that allow a trustee to receive remuneration for the work they do as trustee, and
- Slide 15 which provides the factors that indicate an individual is performing their activities in their individual capacity (as opposed to their capacity as trustee).
4. What is the best guide to use for determining what accounting cost is at arm’s length – your own practice charge outs or the cheapest advertised charge?
Best practice to show it is an arm’s length arrangement would be to have good arm’s length evidence. For example, when benchmarking different prices, consider comparing your costs to other commercial practices, in particular comparable firms and what’s being offered in the market.
5. I have a client that is a mortgage broker and he is organising the finance for his LRBA. In his business he is normally paid via trail commissions which the SMSF’s borrowing will provide a trail commission to him in the future. Would I have any issues regarding NALI or NALE in this matter?
Although the final ruling does not provide an explicit example of a related party mortgage broker that is entitled to trail commissions from a commercial lender, if the LRBA has been established on arm’s length terms and is consistent with the safe harbor guidelines (as set out in the ATO’s Practical Compliance Guideline PCG 2016/5), then the arrangement may be ok. However further clarification is needed so it is best to check with the ATO.
6. I operate my accounting/tax agent practice under a corporate trustee and family trust. My SMSF owns the commercial property (separate corporate trustee and SMSF) which my accounting practices pays rent to the SMSF. I lodge my SMSF tax returns under my tax agent licence. Will I be caught under the new rules?
As mentioned above, the final ruling explains that it is ok for a qualified accountant to use their expertise gained via their work and do their SMSF’s bookwork on their work computer (as long their use of the computer is minor and incidental in nature).
However, if an accountant also lodged their tax return using their tax agent registration (under their firm’s corporate tax agency), then this is likely to create a NALI problem.
7. I use the computer to prepare the financials and tax return for the annual return.
Further to the answers provided to questions 7 and 8 above, some good news is that the ATO’s language around professionals doing work for their own SMSF using company equipment has softened:
“However, minor, infrequent or irregular use of equipment or assets will not, of itself, indicate the individual is acting in their individual capacity. For example, in the absence of any other factor indicating otherwise, minor, infrequent or irregular use of a business computer at the office by an individual would not, of itself, indicate the individual is acting in their individual capacity.” (paragraph 47 of ruling).
In saying this, you will need to make a judgement on what is minor, infrequent or irregular use as no further guidance is given from the ATO. As mentioned earlier, the ruling is unclear on how the use of business assets and equipment will be treated, particularly if the use of these business assets/equipment is relatively minor or incidental.
8. Can the arm’s length cost be seen as a undeducted contribution for the member and therefore brought to account via a journal entry: Debit accounting fees?
It is unlikely for this solution to work. Best practice would be to enter into an arm’s length arrangement and to make physical payment to the SMSF for the accounting services.
9. Say I am an accountant and I prepare the financials and tax return for my SMSF at no cost to the fund. I do this work in my capacity as an individual trustee or director of the company trustee. Will this give rise NALI?
This situation sounds similar to Leonie’s case (slide 19 of presentation). That is, if you as an accountant:
- Perform accounting work for your SMSF in your capacity as trustee/director for free, and
- Do not use the equipment or assets of your employer/business, and
- Do not lodge the annual return using your tax agent registration, then…
…the NALE provisions will not apply as the services performed by you are in your capacity as trustee/director.
10. What if an accountant has their own practice and the accountant is a trustee of his own SMSF. The SMSF accounts and audit are outsourced and paid by the fund at arm’s length rates. The accountant lodges the SMSF annual return via the accountant’s practice. Does the accountant need to charge a fee to the SMSF for lodging the annual returns?
Yes, the accountant should charge the SMSF a fee for lodging the annual returns if the accountant is lodging the returns as tax agent of the fund. Otherwise, the accountant runs the risk that the fund’s income will be taxed as NALI.
11. Will the ATO apply compliance resources to SMSF returns for the 30 June 2021 and prior years given recent issue of this final ruling?
There is some relief for general fund expenses for services due to the ATO’s PCG 2020/5, which provides the ATO’s transitional compliance approach to applying the NALI provisions to NALE.
PCG 2020/5 provides relief for financial years 2018/19 to 2021/22 as the ATO has stated:
The ATO will not allocate compliance resources to determine whether the NALI provisions apply to a complying superannuation fund for the 2018-19, 2019-20, 2020-21 and 2021-22 income years where the fund incurred non-arm’s length expenditure (as described in paragraphs 9 to 12 of LCR 2019/D3) of a general nature that has a sufficient nexus to all ordinary and/or statutory income derived by the fund in those respective income years (for example, non-arm’s length expenditure on accounting services). This transitional compliance approach only applies to general expenditure that is incurred on or before 30 June 2022.
Note that the ATO’s transitional compliance approach does not apply where the fund incurred NALE that directly related to the fund deriving a particular type of ordinary or statutory income.
12. Say I am a principal of an accounting practice and I engage an employee to perform the financials and tax return of my SMSF. The employee enters the time in a time sheet for preparing the financials and tax return of the fund. Once the work is done, the accounting firm writes off the time entered by the employee for performing the job. Is this a case of NALI?
It appears this would be considered NALE and therefore lead to NALI for a few reasons:
- The principal did not perform the accounting services in their individual or trustee capacity, rather they engaged/contracted this service out to their firm/employee
- The firm/employee did not charge a fee for the service
- Simply writing off the time entered by the employee performing the job means nil expenditure which is less than what would be expected in an arm’s length dealing.
13. Say an accounting firm charges its own SMSF $3,000 for accounting and taxation compliance services. The members then contribute the amount back as a contribution for $3,000. The overall effect for both the SMSF and the accounting business is $Nil. What is the point of this ruling for accountants?
If your SMSF pays for an expense (ie. $3,000) relating to a service, there is nothing stopping you as trustee/director in recontributing that amount (ie. $3,000) back into your SMSF as a contribution (contribution caps permitting).
Although the underlying policy rationale of the final ruling and NALI rules is to ensure all SMSF transactions occur on arm’s length terms, the new rules have significant implications for SMSF trustee clients as an innocent or inadvertent acquisition of anything for less than market value (including acquisitions for no cost) could increase the SMSF’s tax rate to 45% on some or all of the fund’s income.
14. How is an SMSF auditor ever going to have the time to analyse and determine if all expenditure is at an arm’s-length commercial rate. It could have significance under provisions for tax issues but would require the auditor to be able to be satisfied. Would they have to use benchmarks that will be published by the ATO. Sounds unworkable?
Although the ATO has reminded SMSF auditors that it will not be taking any action on NALE issues (relating to general fund expenses) it identifies within a fund until 1 July 2022, auditors are still required to report any issues they may identify within the independent auditor’s report.
So yes, there will be some compliance burden on auditors. The ATO is yet to provide guidance to auditors regarding what the final ruling means for them but as a general guide, the auditor should not be asking for any more documentation than what the trustee/directors would already have to assess their SMSF transactions and investments on an ongoing basis.
Keeping proper arm’s length evidence will help as the ATO expects SMSF trustees and the service provider to have a sound basis, such as the application of commercial pricing policies for arriving at the amount to be charged, etc.
15. What about when the trustee is not qualified to perform the task, for example, the trustee mows the lawn at the commercial rental property or fixes small items?
This is a bit of a gray area as the ruling only seems to provide examples of people who have the skills, knowledge and experience to perform work/services for their SMSF.
However, doing work such as mowing the lawn is generally something that needs to be done on a regular basis, so mowing work may not be seen as a ‘minor, infrequent or irregular’.
Similarly, any maintenance fixes would also depend on how small/big the job is and how often the trustee would be performing this work. We saw in Trang’s example that a small fix on property 1 was deemed to be minor, infrequent or irregular in nature and the NALE provisions did not apply.
It is also unclear whether a person who is not qualified and does not hold the necessary licences to perform certain duties or services would fit into the exception in s.17B of the SIS Act and therefore be able to receive remuneration from their SMSF.
Remember, s.17B of the SIS Act provides an exception for a trustee to receive remuneration for work they do as a trustee, as long as they:
- Provide a non‐trustee service, and
- Are appropriately qualified and holds all necessary licences to perform services, and
- Provide services to the public as part of that person’s business, and
- Receive arm’s length payment
It would be best for the trustee to pay a gardening or a property maintenance business to perform these services on the property to avoid any NALE issues.
16. If a practitioner prepares financial statements and an income tax return for a friends SMSF and does not charge, will the NALE rules apply? (The audit is carried out at arm’s length and the fee to the independent auditor is paid by the SMSF).
Yes, this arrangement will give rise to the NALE provisions. As this is an acquisition of services at less than market value in a non-arm’s length transaction, there will be significant consequences as the end outcome will result in income taxed as NALI.
17. If an accountant (who is not a trustee) doesn’t charge a fee for services provided to a SMSF of a retired family member, does this give rise to NALE?
Please refer to the above answer.
18. An unrelated accounting firm invoices an SMSF for providing accounting work for the fund. The SMSF claims the accounting fees in its return. Would this be caught?
If the accounting fee is a deductible expense (under s.8.1 of ITAA 1997), such as preparing financials/producing and lodging tax returns, NALI will apply to all income if the fee is not charged on arm’s length terms.
However, a standard invoice from an unrelated accounting firm would generally be on arm’s length basis so this should not be treated as NALE.
19. Should accountants who are business owners (through a company or trust) and using business software to prepare financials and annual returns (including tax agent services) be going back and charging their SMSF fees from 1 July 2018? Or when should they start charging fees from? Is there any downside to charging fees?
For expenses of a general nature that has a nexus with all of a fund’s income (e.g. accounting fees), no action is needed (i.e. trustees do not need to charge fees to the fund) until at least 30 June 2022 (based on the transitional compliance relief offered in PCG 2020/5).
However, even though the ATO has mentioned they will not look at general fund expenses, if the ATO audits the SMSF for another reason (apart from NALE), the ATO may end up looking at any potential NALE and adjust accordingly.
Alternatively, for expenses relating to particular fund assets (eg. repairs and maintenance on fund owned property), there is no compliance relief. If the trustee provided those services to the fund in their individual capacity, then to avoid a NALE issue, arm’s length fees need to be charged.
The issue here is some trustees may be caught out as superannuation law (s.17A and 17B of the SIS Act) prohibits trustees from receiving remuneration from the fund unless:
- They are appropriately qualified and licensed (if necessary) to perform the services, and
- The services are performed as part of a business through which these services are offered to the public.
Trustees should take care if they find themselves in the above situation.
20. Say some unrelated super funds and other unrelated parties come together to form unit trust to do a property subdivision. All parties are paid based on their unit holding and they all bill the unit trust at commercial rates for their services. Is there any problem?
It is important to take care if SMSF members are performing services for a fixed/unit trust as s.17A and 17B of the SIS Act only apply in relation to trustee remuneration for SMSFs and not trusts. Many industry bodies and the industry made comments to the ATO regarding this ruling, including on this fixed trust issue, stating that:
“Further clarification is needed for SMSFs that invest in unit trusts as the guidance provided so far is not sufficient. The draft Ruling does not provide any examples where an SMSF trustee is assisting with managing the activities of a unit trust that owns real estate. We query whether these would be treated in a similar manner to the situation where the trustee provides internal or trustee type services directly to a SMSF.”
The ATO responded stating they consider the ruling provides “sufficient guidance on the key principles to assist trustees to determine how the provisions apply. Trustees may seek certainty on their specific circumstances through the private ruling process”.
Further clarification is needed so it is best to check with the ATO.
21. Can a trustee of a SMSF which is a unit holder in a fixed trust also receive market value remuneration for management fees performed for the unit trust – paid direct to the individual from the trust?
Please refer to the above question and answer.
22. Does NALE and NALI apply to SMSF in full pension mode?
Yes. NALI applies even if SMSF is in pension phase and has exempt current pension income (ECPI). The ECPI would lose its tax exemption status.
23. Our question relates to rental payments that have been made in advance (e.g. 12 months in advance). Can you please advise the circumstances where these would these be subject to NALI / NALE?
This is a bit of a gray area as the ruling does not cover this scenario. However, if there is an arm’s length arrangement in place, eg. A commercial lease agreement exists and the tenant has the option to pre-pay rent and wishes to do so then this may be ok.
However, if a discount is offered to a tenant for pre-paying rent, this may be an issue if the discount arrangement is not offered at arm’s length terms. Thus any discount policy should be consistent with other normal commercial practices.
Note that with most tenancy legislation in Australia, the amount of rent in advance paid can vary from two weeks to a calendar month (depending on the state and territory), so it is unlikely a standard rental agreement will include a 12 month in advance rent pre-payment.