ATO reviewing property developments that divert profits to SMSFs
Taxpayers using special purpose vehicles (SPVs) to divert profits from property development projects into SMSFs beware, the ATO is reviewing these arrangements. According to the Commissioner, these non-arm’s length arrangements lack commerciality and have the effect of shifting profits that would normally be taxed at corporate rates to SMSFs which are taxed concessionally. The ATO will consider whether dividends and franking credits received by SMSFs under these arrangements are non-arm’s length income (NALI) that is taxed at the top marginal rate and also whether the arrangements give rise to breaches of the regulatory requirements applying to SMSFs.
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Taxpayer Alert
The ATO has issued a Taxpayer Alert (TA 2023/2), warning taxpayers against entering into arrangements where special purpose vehicles (SPVs) are used to divert profits of property development projects to SMSFs. Specifically, it is reviewing arrangements where one or more SMSFs have or acquire direct or indirect ownership of SPVs that undertake a property development project and due to non-arm’s length arrangements between the SPV and other entities, the SMSF ultimately derives more benefits than if the parties had dealt with each other at arm’s length.
Arrangement features
The Alert outlines the following features which such arrangements typically display:
- The controlling minds of one or more property development groups establish an SPV for a property development project;
- The controlling minds are members of their respective SMSFs and interests in the SPV can be directly or indirectly owned by these SMSFs acquired either by arm’s length or non-arm’s length prices;
- The SPV then contracts with related entities to carry out some or all of the property development work at a non-arm’s length price and as a result, the related entities end up deriving lower or even nil profit had the dealings been at arm’s length;
- The related entities, or the SPV, or both, may also enter into loans to facilitate the property development with the terms of the loans inconsistent with those dealing at arm’s length (e.g. interest rate may be lower, or loan terms may appear to be at arm’s length but are not followed or enforced);
- The SPV earns higher profits from the property development than if all the parties were dealing at arm’s length and the SMSFs ultimately derive dividends or distributions in respect of the SPV profits and may receive tax offset refunds in relation to any dividends received.
ATO concerns with these arrangements
According to the Commissioner, these non-arm’s length arrangements lack commerciality and have the effect of shifting profits that would normally be taxed at corporate rates to SMSFs which are taxed at a concessional rate.
The Alert notes the view expressed by some that as long as the SMSF is not directly involved in any non-arm’s length dealing, the non-arm’s length income (NALI) provisions will not apply. The ATO strongly disputes this view and notes the judicially confirmed correct interpretation is that non-arm’s length dealings by any party with respect to any step in relation to a scheme can give rise to NALI.
As a part of its review, the ATO will be engaging with taxpayers that have entered into these types of schemes. The ATO will consider whether dividends and franking credits received by SMSFs under these arrangements should be taxed at the top marginal rate. NALI consequences may also arise where the disposal of entities in the scheme gives rise to capital gains or income that flows to SMSFs.
In addition to the above, the ATO notes that the Commissioner may make a determination under the general anti-avoidance rules in the tax law in relation to the imputation benefit or other tax benefits derived under these arrangements. The ATO may also disqualify individuals from acting as trustees of SMSFs or from acting as directors of a corporate trustee of SMSFs. Notices of non-compliance may also be issued to SMSFs.
SMSF help
If you need help or advice relating to any aspect of your SMSF, particularly in relation to property development, contact us for help and advice.
If you’ve inadvertently entered into a scheme similar to the one outlined in the Alert and are not sure whether the Alert applies to you, we can also help.
Disclaimer: The information on this page is for general information purposes only and is not specific to any particular person or situation. There are many factors that may affect your particular circumstances. We advise that you contact Mathews Tax Lawyers before making any decisions.