NALI case shows exact evidence need

AAT NALI evidence

SMSFs gathering evidence to prove arrangements do not breach NALI provisions have been shown the level of detail needed to defend a challenge in a recent AAT case.

SMSFs planning to use complex arrangements with interposed entities must ensure they have very clearly defined evidence of the relationship between each party that is relevant to the structure involved, according to SMSF legal experts.

Following a recent decision by the Administrative Appeals Tribunal (AAT) that a particular SMSF investing via a unit trust and interposed entities did not receive non-arm’s-length income (NALI) in the form of interest on loans made by the fund, Cooper Grace Ward partner Scott Hay-Bartlem said the case highlighted the need for all arrangements, and their outcomes, to be above board.

“The case of BPFN and Commissioner of Taxation [2023] highlighted a number of key points because the arrangements looked unusual with the SMSF and two intermediaries, but the AAT said they were satisfied there was a commercial structure and there were reasons for the structure,” Hay-Bartlem told selfmanagedsuper.

“It wasn’t some weird contrived arrangement even though the ATO were trying to argue that it was weird and you wouldn’t do it normally, but if you are going to have an arrangement that looks a bit strange, make sure you can explain the reasons for it.

“In this case they had the evidence that returns all the way through were commercial and the absolute key to any arm’s-length or non-arm’s-length arrangement is establishing the commerciality of the terms.

“You can have arrangements with related parties, you just need to make sure they are squeaky clean and, more importantly, because we’re dealing with the ATO you have to prove they are squeaky clean.”

He noted that to prove the operations of an arrangement were not breaching the NALI provisions it was important to draw on experts familiar with how they operated, which in this case was more in line with mezzanine funding.

“Partly where the ATO fell down was it was trying to claim the arrangements were unusual and fees paid to the intermediaries were wrong. The AAT differentiated their witness as being someone who was used to dealing with big banks, whereas the super fund’s evidence was more around particular types of private funding,” he said.

DBA Lawyers special counsel Bryce Figot noted that while the case could not form a legal precedent, it may be referred to by others in similar circumstances seeking clarification as to whether their dealings should be considered as not at arm’s length.

“The decisions of the AAT cannot form precedents for constitutional reasons, but what the AAT decides, the ATO would be remiss to not follow it, or should be appealing it to get that point of law clarified,” Figot told selfmanagedsuper.

“This is definitely something the taxpayer could point to and if they have analogous facts and say: ‘In these circumstances, with this evidence, the AAT said it was not NALI.’”


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