SMSF running a business
The SISA does not prohibit SMSFs from carrying on a business, however a business must be allowed under the trust deed and operated for the sole purpose of providing retirement benefits for fund members.
The sole purpose test contained in subsection 62(1) of the SISA requires that an SMSF is to be maintained solely for the purpose of providing retirement related income for members or death benefits for members’ dependants. Potential contravention of the sole purpose test may arise where the nature of investment suggests that there is a non-retirement purpose behind establishing the investment. A fund will be regarded as having contravened the sole purpose test where a trustee has a secondary purpose in making the investment for the benefit of a related entity.
If an SMSF’s primary purpose for investing in a business is to generate non-superannuation income (eg, salary or wage income) for a member then it is being established and maintained to provide an immediate benefit for the member. That is, the SMSF is funding the day-to-day financial needs of its member and, therefore, it is not established to provide retirement benefits for its members and will contravene the sole purpose test. Another example is where the fund’s business assets are available for the private use and benefit of the member or related parties.
Section 66 of the Superannuation Industry (Supervision) Act 1993 (SISA) prohibits the acquisition of an asset from a related party of an SMSF, unless it meets a specified exception. If the fund intends to purchase the business from an unrelated party, section 66 would not be applicable.
Where the fund intends to invest in the business the following investment rules and restrictions will apply:
Arm’s length dealings – all investments by the fund must be made on a commercial ‘arm’s length’ basis. Contravention of the arm’s length provisions will include:
-selling a fund asset for less than its market value to a related party
-purchasing an asset for greater than its market value from a related party
-acquiring services in excess of what the fund requires from a related party
-paying an inflated price for services acquired from a related party.
Services provided to the fund
If the trustees of the fund will work for the business and perform duties, such as cleaning, customer services and the collection/banking of cash takings. Remuneration will be provided for this service.
To meet the definition of an SMSF under section 17A of the SISA, no trustee of the fund can receive any remuneration from the fund or from any persons for any duties or services performed by the trustee in relation to the fund.
This is interpreted to mean that trustees must not be remunerated for carrying out their normal activities in their capacity as a trustee, such as participating in trustee decision-making, attending meetings, etc.
The restriction, however, does not prevent trustees from being remunerated for non-trustee services they may provide to the fund in a separate professional capacity such as trade services and accounting.
Section 17B of the SISA states that the trustee remuneration conditions do not apply if the individual trustees are remunerated for non-trustee duties or services where:
Non-arm’s length income
Where an SMSF engages the services of a related party at below the market rate this will trigger the non-arm’s length income provisions.
Subsection 295-550(1) of the Income Tax Assessment Act 1997 states that non-arm’s length income (NALI) of a superannuation fund is income derived from a scheme in which the parties were not dealing at arm’s length and which is more than the amount that might have been expected to be derived if those parties had been dealing at arm’s length.
It should be noted that from 1 July 2018, the definition of NALI was expanded and clarified to also include income derived by an SMSF from a scheme in which the parties weren’t dealing with each at arm’s length, where the fund incurred expenses in deriving the income that are less than (including nil expenses) those which the SMSF would otherwise have been expected to incur if the parties were dealing on an arm’s-length basis.
An SMSF’s NALI is taxed at the highest rate.
Alternatively, the market value of the work performed by the trustees may be classed as contributions to the fund.
TR 2010/1: Income tax: superannuation contributions states that a contribution is anything of value that increases the capital of a superannuation fund provided by a person whose purpose is to benefit one or more particular members of the fund or all of the members in general.
An objective determination of a person’s purpose may occur when a transaction or arrangement is entered into because of a connection or relationship between the person and the superannuation fund, or cannot be explained by reference to commercial or arm’s length dealings.
Where a related party provides an ongoing service at no cost to the SMSF, for the purpose of benefiting the members of the fund, this will constitute a contribution reflective of the increase in profits and the value of fund’s assets. Accordingly, unless related party workers are remunerated, their services can give rise to a contribution.
The issues listed above need to be resolved before the trustees purchase or run the business in their SMSF. Any breaches of these rules will be reported as the contraventions by the auditors to the ATO.
We do not recommend running a business in the SMSF due to its complexity and high compliance risks.