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At the December 2011 meeting of the National Tax Liaison Group Superannuation Technical Sub-Group (NTLG), SPAA sought clarification on the application of section 66 of the Superannuation Industry (Supervision) Act 1993 (the SIS Act) which prohibits the acquisition of certain assets from members of a regulated superannuation fund. Specifically clarification was sought in situations where an SMSF constructs a property using goods and materials supplied by a related party.
The questions submitted by SPAA to the NTLG were as follows:
Will the trustees of an SMSF breach section 66 of the SIS Act if the trustees appoint as their agent, a
related party to purchase the goods and materials on behalf of the trustees and those goods and
materials are used in the construction of a building on land owned by the SMSF?
Will the trustees of an SMSF breach section 66 of the SIS Act if the trustees execute a deed of bare trust and transfer funds from the SMSF to the bare trust to finance the purchase of goods and materials used by a related party in the construction of a building on land owned by the SMSF?Background
The construction of a building requires the performance of a service (in this case by a related party) and the use of goods and materials to construct the premise. As part of the professional services provided by a builder, it is common practice for builders to provide the goods and materials necessary to construct the premise. It would be unusual, and in most cases impractical, for the consumer (in this case the SMSF) to purchase the goods and materials required to construct the premise directly from the supplier. Indeed, given trade discounts, it could be to the financial disadvantage of the SMSF if it did purchase the goods and materials directly.
In February 2010, the ATO released ruling SMSFR 2010/1 which explains when an asset is intentionally acquired by a trustee of a SMSF from a related party for the purposes of subsection 66(1) of the SIS Act. This ruling covers situations where an SMSF enters into a contract with a related party entitling the SMSF to the performance of a service by the related party.
The ruling says that the trustees of an SMSF will be in breach of section 66 if goods or materials used in the construction of the premise are provided to the SMSF by the related party builder.
In 2011, the NTLG confirmed this view and said in cases where an SMSF engages a related party to construct a building on land owned by the SMSF, it must be clear that the related party is only providing building services and not any materials used if a breach of section 66 is to be avoided.
However, it is unclear in SMSFR 2010/1 whether the trustees of an SMSF would breach section 66 of the SIS Act if the trustees appoint as their agent, a related party to purchase goods and materials on their behalf and those goods and materials are used in the construction of a building on land owned by the SMSF. It is also unclear in SMSFR 2010/1, whether the payment of the building materials out of a bank account which is held by the related party on bare trust for the SMSF will breach section 66 of the SIS Act. The latter may be preferred by the SMSF trustees as a way of securing trade discounts. It may also be preferred by sub- contractors wanting to transact directly with the builder rather then the SMSF trustees
In the ATO’s view, where a related party builder only acts as an agent, arranging for the acquisition of building materials on behalf of the SMSF trustee from an unrelated vendor, and the related party at no times holds legal title to the building materials, the SMSF trustee have acquired the materials from that vendor, not the related party. Therefore, section 66 of the SIS Act would not apply to the acquisitions and there would be no breach.
Normal laws of contract and agency are applied to the facts of each case to determine whether the particular arrangements under which the building materials are supplied do amount to a direct acquisition by the SMSF trustee, with the related party only acting as an agent.
However, the ATO also said that the following scenarios should be avoided as they might be indicative of the materials being purchased by the related party in their own right and on-sold to the SMSF trustee rather than a purchase by the SMSF trustee through the related party as agent:
The related party pays for building materials and invoices the SMSF either progressively or at the end
of the project, especially where a mark-up or profit is added.
The related party builder claims GST input tax credits in respect of the acquisition of the building
In response to the question about a bank account being opened in the name of the related builder on bare trust for the SMSF, the ATO said that the payment for the building materials out of a bank account which is held by the related party on bare trust for the SMSF will not contravene section 66 of the SIS Act. The application of section 66 depends on whether the related party acquires the building materials in their own right which are then supplied to the SMSF trustee.
Implications for practitioners
In situations where SMSF trustees enter into a contract with a related party entitling the SMSF to the performance of a service by the related party, and the goods and materials provided by the related party as part of the service are not insignificant in value or function, care needs to be taken to avoid potential breaches of section 66 of the SIS Act.
In these circumstances, consideration should be given to appointing the related party as an agent of the trustee. The appointment of the related party builder as an agent of the trustee in these circumstances would typically involve the SMSF trustee appointing the related party as their agent under a deed of agency agreement, or by a variation to the building contract.
The deed of agency agreement would confer upon the agent the terms of the agency and would authorise the related party to acquire the goods and materials as an agent on behalf of the trustees. Alternatively, the agency appointment, and the authority to act conferred upon the agent, could be expressed or implied in the building contract.
Consideration could also be given to opening a bank account in the name of the related party builder and the builder executing a deed of bare trust confirming that it holds the bank account on bare trust for the SMSF trustee. This may be particularly important in situations where trade discounts are at risk or sub-contractors are involved.
If a bank account is opened in the name of the related party builder, the deed of bare trust should confirm that the related party builder holds the bank account on bare trust for the SMSF trustee and that all things purchased with the bank account proceeds belong to the SMSF. Funds can then be transferred from the SMSF
© SMSF Professionals’ Association of Australia – Technically Speaking Updates
to the bank account and used by the related party builder to purchase building supplies as directed by the SMSF trustee.
Engaging related party builders to provide goods and materials to an SMSF is not an uncommon occurrence. Knowing what to do in these circumstances to avoid potential compliance breaches requires a good understanding of the SIS Act. It also provides a very good illustration of the value and importance of an SMSF specialist advisor.
Changes to the NSW Duties and Land Tax Acts
As a result of recent amendments to the NSW Duties Act 7, the duty concession that applies to transfers to SMSFs in NSW now applies to such funds even if the ATO is yet to confirm the complying fund status of the fund. However, this concession only applies if the trustee of the fund is satisfied the fund will be so confirmed. The Chief Commissioner of NSW State Revenue is now also able to reassess the duty payable in relation to a transfer if he or she is satisfied the fund was not a complying fund when the liability for the duty arose.
A recent amendment has also been made to the NSW Land Tax Management Act to ensure that complying SMSFs will not be treated as special trusts for land tax purposes. This means SMSFs in NSW which satisfy the requirements of section 42(1) of the SIS Act (i.e. the fund is classified as a complying superannuation fund) are eligible for the tax-free threshold on taxable land.
- The related party pays for building materials and invoices the SMSF either progressively or at the end of the project, especially where a mark-up or profit is added.