The ATO today released a new tax determination (TD) addressing the remaining issues with limited recourse borrowing arrangements (LRBA) and the non-arm’s-length income (NALI) provisions in the income tax law.
TD 2016/16 looks at whether the ordinary or statutory income of an SMSF is non-arm’s-length income under subsection 295-550(1) of the Income Tax Assessment Act 1997 (ITAA 1997) when the parties to a scheme have entered into an LRBA on terms that are not at arm’s length.
The ATO’s ruling stated: “When parties to a scheme, that include a trustee of an SMSF have entered into a LRBA on terms which are not at arm’s length, it is necessary to consider whether the SMSF has derived more ordinary or statutory income under the scheme than it might have been expected to derive if the parties had been dealing with each other at arm’s length in relation to the scheme.
“NALI will only arise in those cases where the answer to this question is affirmative.”
The ATO continued that in answering the question above, it was necessary to identify both the steps of the relevant scheme and the parties that dealt with each other under those steps of the scheme.
“Having identified the steps and parties to the scheme, paragraph 295-550(1)(b) of the ITAA 1997 requires a determination of the amount of ordinary or statutory income that the SMSF might have been expected to derive if the same parties to the scheme had been dealing with each other on an arm’s-length basis under each identified step of the scheme,” the ruling said.
“It is therefore necessary to identify what the terms of the borrowing arrangement may have been if the parties were dealing with each other at arm’s length, ‘the hypothetical borrowing arrangement’.
“Having identified a hypothetical borrowing arrangement between the SMSF and the lender the terms of which are on an arm’s-length basis, it is then necessary to establish whether it is reasonable to conclude that the SMSF could have and would have entered into the hypothetical borrowing arrangement.”
Where it was reasonable to conclude the SMSF could not have or would not have entered into the hypothetical borrowing arrangement, the SMSF would have derived more ordinary or statutory income under the scheme than it might have been expected to derive under the scheme with the hypothetical borrowing arrangement, the ruling said.
“In this instance, the ordinary or statutory income derived under the scheme is NALI,” it concluded.
The full ruling for TD 2016/16 can be found here.