Changes to Non-arm’s Length Income for Superannuation Funds

What is NALI?

NALI refers to income generated by a superannuation fund pursuant to a non-arm's length arrangement. Income is classified as NALI if the income is more than what the fund would have received if the fund was dealing at arm's length. In the 2017-2018 Budget, the Government expanded the definition of NALI to include non-arm's length expenses (NALE). NALE arises when the fund incurs expenses that are lower than the expenses they would have incurred if the fund was dealing at arm's length.

Where the fund's income is classified as NALI, it is taxed at the highest marginal rate (45%). This is relatively easy to determine and calculate for NALI. However, for NALE, an expense can be specific or general in nature. A specific expense is an expense that is directly related to the income of a specific asset (for example, property management or rates expenses paid for a property would directly relate to the rental income derived from that property). A general expense is an expense that relates to all of the income of the fund (for example, accounting and audit fees).

Where a specific expense is NALE, the income of the asset that the specific expense relates to will be deemed to be NALI and taxed at the highest marginal rate. However, where a general expense is NALE, Law Companion Ruling LCR 2021/2 provides that it would result in the entire income of the fund being deemed NALI and taxed at the highest marginal rate.

Proposed Changes to General Expense NALE

Due to concern regarding the taxation of general expense NALE, the Treasury released a consultation paper on 23 January 2023. The consultation paper suggested that, for general expense NALE, a self-managed superannuation fund or small APRA fund will only be taxed at the highest marginal rate on five times the difference between the expense the fund paid and the expense that the fund should have paid (if it were dealing at arm's length). This proposal would have imposed an effective tax rate of 225% of the expenditure breach. The consultation paper didn't propose to change how the specific expense NALE operates.

For example, a member of a self-managed superannuation fund works for an accounting firm, and the member's firm only charged the fund $500 for accounting fees instead of the standard $2,000 the firm would ordinarily charge. In that instance, the draft consultation paper suggested that the tax payable for the NALE would be $1,500 (that is $2,000 - $500) x 5 x 45% = $3,375.

On Tuesday, 9 May 2023, the Treasury confirmed in the Budget that the Government will proceed with the method set out in the consultation paper. However, instead of multiplying the difference by five times, it will multiply the difference by two times. This imposes an effective tax rate of 90% of the expenditure breach (compared to the originally proposed 225%). The specific expense NALE will continue to operate as it currently operates.

To continue with the example discussed above, now the tax payable for the NALE would be $1,500 (that is $2,000 - $500) x 2 x 45% = $1,350 (instead of $3,375).

On 19 June 2023, the Government released the Treasury Laws Amendment (Measures for Consultation) Bill 2023: Non-arm's Length Expense Rules for Superannuation Funds 2023 (Cth) to implement the changes announced on Budget night. The Bill still needs to pass Parliament. Once the Bill is enacted, the Bill will apply to income derived in the 2023-2024 income year or later and to expenses incurred on or after 1 July 2023.