SMSFs still using a limited recourse borrowing arrangement (LRBA), in the form of a related party loan, will need to ensure they are benchmarking it to the correct interest rates, and are drawing that number from a reputable source.
Failing to do so may result in any income and capital gains being treated as non-arms length, according to SmarterSMSF chief executive Aaron Dunn, who raised the issue as part of a webinar addressing SMSF tax planning before the end of the current financial year.
Dunn said SMSFs needed to ensure that any related party borrowing benchmarks were applicable to the end of the current financial year and should not rely on past figures heading into the new financial year.
“Just because a fund has complied with safe harbour provisions in the past does not mean it should not do so going forward,” Dunn said.
“In this area, the most important consideration is the interest rate and to ensure funds are benchmarking to safe harbor terms if they don’t have a rate that is externally supported,” he added.
Dunn said externally supported rates could not be drawn from a lender’s website but had to consist of loan offer documents from a lender that provided evidence of the terms under which the related party borrowing operated.
“What have seen in 2018/19 is change of interest rate that applies for real property and listed shares, and funds need to make sure they are adjusting that accordingly when it comes to the level of interest and way repayments are made,” he said.
The rate should be based off the Reserve Bank rate for a standard variable housing loan for investors, Dunn said, adding funds should have some form of notice to vary the interest rate from the lender, being a related party, to the fund.
“The notice should also reflect the rate of change and calculations used and repayments from the fund must fit the terms of the loan agreement,” Dunn said, warning that failing to cover these requirements could prejudice the tax concession that exists in respect of this income.
“If an SMSF can’t demonstrate the borrowing arrangement is earnings accretive, the ATO will treat it as non-arms length income because it would consider the fund was not able to enter into a loan arrangement or the terms entered into have not been maintained.”
