Since the borrowing within superannuation funds has been allowable, a strategy thought to be effective for SMSFs was to borrow funds from a related party under ‘zero interest’ limited recourse borrowing arrangements (‘LRBA’), and use the funds for the acquisition of an investment asset in the SMSF.
Importantly, the ATO had indicated its acceptance of a zero interest loan in a non-binding manner, that is, it effectively gave its ‘seal of approval’ to this arrangement in guidance provided at certain National Tax Liaison Group (NTLG) meetings.
Recently, however, the ATO re-aligned its views on these arrangements which may, unfortunately, spell the end of zero interest loans. ATO will now argue that a zero interest loan triggers the non-arm’s length income rules and as such, taxpayers are unable to rely upon previously issued favourable Private Binding Rulings (PBRs) and ATO comments.
Going forward, therefore, if a SMSF has an arrangement like this in place, it will become non-compliant – so even if the investment in the single acquirable asset is only partly funded using a zero interest loan, all of the income derived by SMSF from that asset will be taxed at 47%. Further, this 47% tax rate applies even if the SMSF has moved into pension phase.
Morrows Legal can advise on setting up the right loan structure and having correct documentation in place to avoid scrutiny by the ATO.