Self-managed super funds (SMSFs) that have borrowed from a private company under a limited recourse borrowing arrangement (LRBA) will not suffer adverse tax consequences if the loan interest has been capitalised because of COVID-19.
This was an important announcement and takeaway from ATO Director, SMSF Auditors Portfolio, Kellie Grant’s address on day two of the 2021 SMSF Association National Conference.
SMSF Association Deputy CEO and Director of Policy & Education, Peter Burgess, welcomed the ATO’s announcement, saying it provides certainty for SMSFs with LRBAs where the lender is a private company and, due to COVID-19, relief has been provided to the SMSF by capitalising the loan interest.
“It means, assuming all other conditions are satisfied, the option of capitalising interest in circumstances where the SMSF would be eligible for loan repayment relief under the COVID-19 relief measures will not cause the loan to be treated as a deemed unfranked dividend or the relevant income taxed as non-arm’s length income.
“We had previously highlighted an inconsistency between the requirements that must be satisfied under Division 7A of the ITAA 1936 for the loan not to be treated as a deemed dividend and the requirements of the ATO’s safe harbour provisions for the relevant income received by the fund not to be taxed as non-arm’s length income.
“Although the safe harbour terms, and the associated COVID-19 relief measures, do permit the capitalisation of loan interest, it was unclear whether this would breach Division 7A and result in the SMSF having to treat the loan as a deemed unfranked dividend, which would then have adverse tax implications for the fund. The ATO has now confirmed, that assuming all other conditions are satisfied, this will not be the case.”
The ATO also reminded delegates that taxpayers must apply for administrative relief if they are unable to make the minimum yearly repayments on their Division 7A loans by the end of the lender’s 2019-20 income year.
About 10% of SMSFs have LRBAs with the vast majority using the debt to acquire real property.