Non-arm’s length LRBA grace period is to be extended

Non-arm’s length LRBA grace period is to be extended. Continuing from the ATO’s determinations that limited recourse borrowing arrangements (LRBA) maintained not on arm’s length terms give rise to non-arm’s length income (NALI), the ATO’s deadline for fixing the terms of existing LRBAs was 30 June 2016.

However, additional time has been granted and now trustees have until 31 January 2017 to rearrange their LRBAs and either meet the safe harbours in PCG 2016/5 or otherwise demonstrate that the arrangement was entered into and continues to be maintained on terms consistent with an arms’ length dealing.

LRBAs established not on commercial terms give rise to NALI, which is taxed at the top marginal individual tax rate currently at 49%. This can really negate all the benefits of holding investments in a superannuation environment.

The announcement of the extension of the deadline by an additional 7 months mentions several requests from individual trustees to allow additional time to rearrange their affairs. The ATO also acknowledged that the current guidance in relation to NALI from non-arm’s length LRBAs can be improved. In particular, there is scope for further practical guidance clarifying the circumstances in which an SMSF will be taken to receive a greater amount of ordinary or statutory income under a particular non-arm’s length arrangement, compared to the amount which it would have received under an arm’s length arrangement.

The ATO will not select an SMSF for an income tax review purely because it has an LRBA for the 2014-15 income years and prior, provided that:

  • The SMSF trustee ensures that any LRBA’s that their fund has is on terms consistent with an arm’s length dealing, or is alternatively brought to an end by 31 January 2017; and
  • Payments of principal and interest for the year ended 30 June 2016 must be made under LRBA terms consistent with an arm’s length dealing by 31 January 2017.