A specialist lawyer has pointed out a common misconception in determining whether the sole purpose test has been met, specifically in regards to when an SMSF undertakes a property development project.
Sladen Legal principal Phil Broderick noted the ATO often focuses on the subjective motives of a trustee running a business inside an SMSF when making a determination, rather than assessing whether the arrangement aligns with the stated objective of the sole purpose test.
“The sole purpose test is often [understood] in my view, incorrectly. I think people have a very high level view of the sole purpose test, rather than actually looking at what the test says and what the courts have said about it over the years,” Broderick told Institute of Financial Professionals Australia webinar attendees today.
“The mischief that it’s really trying to aim at is making sure money doesn’t exit the system. As a generalisation, an SMSF making money and keeping money in the fund to ultimately pay retirement benefits or death benefits, that’s what the sole purpose is about.
“It’s important to note that the sole purpose test is about an objective purpose, and the Aussiegolfa [case] made that very clear, it’s not about subjective motives.”
To illustrate his point, Broderick referred to a case study from the ATO website where the regulator determined an SMSF entering into an unrelated unit trust scheme with minimal equity and substantial borrowings had potentially breached the sole purpose test.
In that case study, the regulator raised concerns when an SMSF reported a rapid increase in value over a short period, where its only assets were the investment in the unit trust and distributions from a property development.
The regulator concluded the fund was primarily established to obtain inappropriate tax benefits, rather than focusing on retirement outcomes.
“The ATO is getting confused, [because] that’s a subjective motive. If the objective purpose is to make retirement benefits, the fact that you make them very quickly or very slowly is irrelevant as long as you do it within the rules, it’s not a breach of the sole purpose test,” he explained.
“As long as you’re doing it for the purpose of making money for the fund to ultimately pay retirement benefits, that’s it, that’s the end of the story. Subjective motives… the courts have said, are irrelevant.”
