Jennifer Brookhouse outlines the potential complications related to the new SMSF trustee remuneration rules.
It used to be that legislation specified that no trustee could receive remuneration from a fund or from any person for duties or services performed by a trustee in relation to a fund.
This restriction applied to individuals who receive payment, either as a trustee or as a director of a corporate trustee.
It also applied to any service provided by that person, regardless of whether it is a specific trustee duty or not.
This meant a self-managed super fund (SMSF) could not employ the services of a trustee which did not relate to the running of the SMSF, such as portfolio construction and accounting services.
On 21 March 2012, a Bill received Royal Assent that amends the SIS legislation.
Effective from 8 October 1999, individual trustees can receive remuneration provided that:
The trustee performs the duties or services other than in the capacity of trustee;
The trustee is appropriately qualified and holds all the necessary licences to perform the duties or services;
The trustee performs the duties or services in the ordinary course of a business, carried on by the trustee, of performing similar duties or services for the public; and
The remuneration is no more favourable to the trustee than that which it is reasonable to expect would apply if the trustee were dealing with the relevant other party at arm's length in the same circumstances.
Similar new rules also apply to directors of a corporate trustee, but in this case, the effective date is 1 July 2007.
The reason the effective date differs between individual and corporate trustees is to align with the commencement of the original legislation, thereby allowing it to operate as intended. The amendment provides clarification that a trustee can be employed to undertake non-trustee activities and receive remuneration.
Services to be provided as part of a business
This requirement would seem to preclude many trustees from carrying out various activities.
The requirement that the service be supplied as part of a business that normally supplied those services means that any trustee who does not conduct such a business cannot be remunerated.
For example, the trustee might be a qualified electrician but only work as an employee, and thus not be able to be remunerated for electrical work.
If the trustee is not remunerated for services, then some of the issues explored below may arise.
Arm's length actions
Generally, trustees must ensure all actions are at arm's length.
The legislation allows a trustee to deal with another party which is not at arm's length provided the terms are no more favourable to the other party (ie, favourable to the super fund).
The Australian Taxation Office (ATO) explored this issue briefly in ATO ID 2010/162, which stated that the terms of dealing could be more favourable for the trustee, but the terms cannot be more favourable to the other party (which could arise with a related party).
Non-arm's length income
Non-arm's length income derived by a superannuation fund is taxed at 45%. The tax legislation looks at:
A scheme between the parties who are not dealing at arm's length; and
The amount is more than the amount the fund would expect to derive if the parties had been dealing at arm's length.
A simple example is the renovation of a property owned by the SMSF.
If the services provided by the trustee are less than what would be charged at commercial rates, the amount of gain on the property would be greater (ie, the cost base is lower as less was spent making the renovations).
The additional capital gain (which is assessable income) is non-arm's length income.
Services versus materials
While the provisions allow a trustee to receive remuneration for services provided, the legislation specifies that the trustee:
Is appropriately qualified and holds all necessary licences;
Performs the duties or services in the ordinary course of a business carried on by the trustee for the public; and
Remuneration is determined at arm's length.
For example, if the trustee is a builder, the SMSF can employ their services as a builder but cannot acquire materials from the builder to undertake the work.
While it would clearly be preferable to allow the builder to acquire the materials due to possible discounts, the problem arises when the materials are acquired from the builder.
Possible solutions in this scenario are:
Creating a contract with the builder that includes both services and materials; or
The builder acts as agent to purchase the materials and the SMSF pays the supplier of the materials directly.
Taxation of deductions and income
When consideration is given to using a trustee for services, it is important to assess the tax implications for each party and the impact this can have on the overall value of the arrangement.
A superannuation fund can claim a tax deduction for allowable expenses at a rate of 15 per cent (ie, the fund's tax rate).
This means if $10,000 is an allowable deduction, the value of the deduction is $1,500. Also, any non-arm's length income derived by the super fund is taxed at 45 per cent.
For the party providing the service, the income received is taxed at up to 46.5 per cent if the provider is an individual, and 30 per cent if the provider is a company.
Running a business
The ATO has stated that running a business through an SMSF is inconsistent with the sole purpose test.
While it is outside the scope of this article to discuss this issue in detail, it can be an important consideration and could arise if, for example, an SMSF intends to purchase a property, employ the trustee for building services and sell the property.
The ATO is generally unlikely to consider that a once-off renovation and sale of a property equates to running a business through the SMSF.
However, the ATO could question whether a business is being operated if this activity occurs more than once.
Another aspect the ATO will consider is how much of the super fund is committed to the purchase and renovation of the property. If there is a significant portion of the fund directed towards a single investment, this again may raise issues.
Although legislation has been amended to allow trustees to be remunerated for certain services, there is still uncertainty around the practical application.
As always, a single aspect cannot be considered in isolation and there are a number of other issues which will impact on a decision to employ the services of a trustee.
Jennifer Brookhouse is a senior technical consultant with MLC Technical Services.