Speaking in a recent podcast, Colonial First State head of technical services Craig Day said applying the ATO’s ruling literally, SMSFs with a related-party limited recourse borrowing arrangement (LRBA) that was established many years ago at interest rates below market value will have a NALI issue even if they had fixed it to be in line with the ATO’s safe harbour guidelines.

“You can’t fix it, because the ruling says that if you enter into a non-arm’s length limited recourse borrowing arrangement, then all future income and capital gains will be NALI, and this cannot be rectified by refinancing the LRBA into a non-arm’s length arrangement,” explained Mr Day in a CFS FirstTech podcast.

Mr Day said the ruling outlines that as the asset was acquired on non-arm’s length terms upfront, it is tainted permanently.

“The interesting thing here is that when we go back to those 50-year LRBAs at zero interest rates with zero capital repayments until the end – so a contribution in anything but name – in those situations the ATO did catch up with people and put out [PCG 2016/5] that said if you’ve gone and done one of these things, we’ve now got these safe harbour requirements, you have to refinance into that safe harbour requirement, otherwise future income is going to be non-arm’s length income,” said Mr Day.

“So everyone went and refinanced. Now this ruling comes out, retrospectively, and says all of that fix you did was pointless because its going to be NALI anyway.”

Mr Dar said it is still a possibility that the government or ATO may release guidance that says that SMSFs who were caught in that original situation and rectified the loan so that it was on arm’s length terms won’t have that problem.

“[It’s unclear] whether or not the government or the ATO move on that and say well if you were caught in that original kind of situation before we clarified that non-arm’s length income would apply then as long as you refinanced in accordance with those instructions and met all the requirements, you’re okay. Maybe they might do that, but the way the ruling is currently written, it will always be NALI. I kind of think that they might, I don’t know,” said Mr Day.

“What I would say is that if you did enter a non-arm’s length limited recourse borrowing arrangement today and then thought to quickly refinance it to fix it – it’s too late, there’s nothing you can do.”