Self-managed superannuation funds (SMSFs) now have new legislation that strengthens the non-arm's length income (NALI) provisions.

Effectively, your SMSF will pay tax at the top marginal tax rate of 45% when the NALI provisions are enacted. Steering clear of these provisions means that you can continue to enjoy the concessional rate of tax and build your retirement nest egg.

The recent change in law relates to removing the ambiguity surrounding NALI "expenses". Previously, the section was clear in regard to amounts of overpaid income to an SMSF, such as rental income received on a commercial property leased to a related party. Any income derived that is more than the SMSF could expect to earn if the parties were dealing at arm's length is taxed at the highest marginal rate.

The new SMSF rules for underreported expenses

The new legislation rewords the income tax law and adds that NALI applies to an investment, asset class or the fund as a whole if:

• the SMSF incurs a loss or outgoing which is less than the amount that is expected to be incurred, or
• in gaining or producing assessable income, the SMSF does not incur a loss at all which it would normally expect to.

Further guidance

After the legislation was enacted, the Australian Taxation Office (ATO) released 2 rulings that provide further details about what it considers non-arm's length arrangements. As a trustee, you need to be aware of 2 major principles:

• purchasing an asset below market rate, and
• personally providing services to your SMSF.

Purchase of an asset under non-arm's length arrangements

Whenever you intend to purchase an asset for your SMSF at less than market value, it is best practice to run the puchase past us first. This also includes when you want to transfer an asset from your personal name (or a business) into the fund.

By checking with us first, you can be assured that the purchase is allowed under these new SMSF rules. We will make sure that you have enough eligible contributions available to make the purchase, and also verify the purchase is within the acquisition of assets rules.

Internal arrangements with your SMSF

The non-arm's length expenditure provisions are not intended to apply to services provided by you in your capacity as trustee of the fund. However, the ATO has stated that in practice it requires an objective consideration of the circumstances in each case.

This becomes particularly important if your SMSF has real property assets like a residential rental property and, specifically, if you perform renovations, repairs or maintenance personally on the SMSF's rental property for free.

If work performed on the property is minor, infrequent or irregular, the NALI provisions are unlikely to apply. However, larger projects, or projects that require specific licences or qualifications, may come under scrutiny.

The ATO is taking a pretty reasonable approach to ensure than an SMSF is not getting an unfair advantage from your personal services. However, if you are in doubt, please contact us for a full review.

Conclusion

Getting it wrong could leave your SMSF with a large tax bill. An individual asset, such as a rental property, may become tainted and be taxable at 45%. In other instances, the entire fund may get taxed at the top marginal tax rate.

Your situation may require additional structuring to be completed so that you will not be operating outside the law. Discussing it further with us will make sure you are aware of all the tax implications on decisions for your SMSF and will ensure you get it right.