A specialist SMSF practitioner has confirmed there are certain circumstances whereby costs not incurred on a commercial basis will not trigger the non-arm’s-length expenditure (NALE) provisions and by extension not be subject to the non-arm’s-length income penalties.
According to Accurium superannuation adviser Natalie Scott, the anomaly arises from the two types of expenses SMSF trustees can claim on behalf of the fund and how they interact with the NALE rules.
To this end, section 25.1 subsections (a) and (b) of the Income Tax Assessment Act (ITAA) specify expenditure can be deducted if incurred while managing tax affairs or complying with an obligation imposed on you by a commonwealth law, insofar as that obligation relates to the tax affairs of an entity.
“So essentially when you’ve got an SMSF and its tax return is being prepared, for example, or it is dealing with the ATO, it might be dealing with an audit but hopefully not, all those deductions you claim in the tax return are actually under section 25.5 of the tax act,” Scott explained.
“Looking at section 25.5 there no requirements for a nexus to assessable income [to exist].”
On the other hand, ITAA section 8.1(1)(a) and (b) allows for a deduction to be made from assessable income for any loss or outgoing if it has been incurred in gaining or producing your assessable income or if it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income.
“From an SMSF perspective, we’d be generally always claiming deductions from [section 8.1(1)(a)]. So in order to claim deductions for a number of expenses, we need to make sure there is a nexus to assessable income,” Scott said.
Looking at the two types of deductions, she pointed out the law states that for NALE to exist, including situations involving general expenses, a nexus between the expense incurred and the income generated for the SMSF must be established.
As such, she noted any deductions the fund makes under section 25.5 of the ITAA cannot be treated as NALE as they will have no nexus to the SMSF’s income. This includes situations where a trustee, or an entity related to the individual in question, performs a service and decides not to charge a fee for it.
