SMSF trustees should carefully consider several critical factors before hiring a related party to provide services to a unit trust in which they are invested, as such arrangements could potentially trigger the non-arm’s-length income (NALI) rules, according to a superannuation lawyer.
DBA Lawyers senior associate William Fettes cautioned against engaging related parties in most cases and advised trustees intending to use this structure to be thoroughly prepared to document and justify the services performed.
“If you must go down that road, then you need to be very clear that you can address several key points. [Stating the practice] is consistent with what others are doing may still not be enough to get you over the line in a dispute with the ATO about NALI,” Fettes noted during a recent briefing.
“Can it be proven that the fees are consistent with an arm’s-length arrangement? How does a related party quote and charge in respect of clients they have that are arm’s-length third parties? Can you produce contemporaneous evidence from other service providers who are doing similar things? This is where things really can fall down.
“You really need a very rigorous process behind [your reasoning] and great record-keeping to address that risk. If you can’t get satisfactory answers to these questions, there needs to be strong cautions put to the client that they may be exposed to a NALI risk.
“It’s very hard to defend an ATO assessment of NALI and that’s where contemporary evidence is really the best evidence.”
He emphasised trustees must take a comprehensive view of the services performed by the related party, rather than focusing solely on the main activity.
“If you’ve got clients that are builders, it’s not just the building work that needs to be considered. It might be things in the nature of planning, management and oversight that really trip you up. Accounting for those things might be something that’s overlooked,” he said.
“The bottom line in how to de-risk this is it’s best to engage independent contractors to do whatever is necessary if you really want to be outside that NALI framework.
“It’s not always the truth that the clients want to hear, but that’s the hard truth.”
He added providing sufficient evidence and documentation in this situation is particularly important given superannuation law does not offer definitive guidance on the services a trustee can perform as a related party to a unit trust in which their fund is invested.
