As previously flagged by the ATO (and reported in our June 2016 newsletter), late last month the Commissioner of Taxation released further guidance on limited recourse borrowing arrangements (LRBAs) with non-arm’s length terms. Specifically, Practical Compliance Guideline PCG 2016/5 (the PCG) was updated from the original version released in April 2016 and Taxation Determination TD 2016/16 (the TD) was issued to replace two withdrawn ATO Interpretative Decisions: ATO ID 2015/27 and ATO ID 2015/28.
The PCG provides that SMSF trustees have an opportunity to review the terms of their funds’ LRBAs before 31 January 2017 such that the terms of their LRBAs will not be subject to compliance action for the 2014-15 income years (or before) if, by 31 January 2017:
- the LRBA is on terms consistent with an arm’s length dealing; or
- the LRBA is brought to an end and the payment of principal and interest made under the LRBA terms is consistent with an arm’s length dealing.
The PCG then sets out the ‘safe harbour’ terms on which SMSF trustees may structure their LRBAs consistent with an arm’s length dealing.
Where the terms of an LRBA are not on arm’s length terms, the TD expresses the Commissioner’s opinion on how the non-arm’s length income (NALI) provisions will apply and sets up a ‘hypothetical borrowing arrangement’ for assessing whether or not it is objectively reasonable to expect that an SMSF could have and would have entered into a borrowing arrangement that is based on arm’s length terms.
Given the effects of the NALI provisions, advisers should notify SMSF clients with related party LRBAs of the importance to review such arrangements now. If you require help with reviewing and or potentially updating the terms of a loan agreement in an LRBA so that it comes within the scope of the Guidelines before 31 January 2017, please contact Thalia Dardamanis or Patrick Cussen on 1300 267 529.