Many businesses and industries have been severely crippled as a consequence of the governments’ response to the COVID-19 Crisis, either because of lockdowns or restrictions on operating levels. This has left many businesses with reduced income and cash reserves and often struggling to make ends meet.
It is quite common for Self-Managed Superannuation Funds (SMSFs) to own real property and in many cases to lease it out to a related business. In times like this where the tenant’s business has been significantly affected by the COVID-19 Crisis and the response thereto, the SMSF may want to provide the tenant with some form of rent relief.
Can a SMSF landlord, legally offer rent relief to a related tenant?
Potential compliance issues
Firstly, it is important to remember that SMSFs are governed by the Supervision Industry (Supervision) Act 1993. A fund that provides rent relief, waivers or deferrals, particularly to a related party, risks breaching a number of SIS Act sections and regulations, including the following:
- Section 62: Sole purpose test – potential for the offering of the rent relief, waiver or deferral to be viewed as to assisting the tenant rather than increasing the retirement benefits of the members.
- Section 65: Financial assistance – potential for the offering of the rent relief, waiver or deferral to be viewed as providing a financial benefit to the members or related party outside of the fund.
- Section 109: Arm’s length dealing – it may be difficult to establish that the SMSF is dealing with the related party tenant in the same manner as they would an unrelated tenant.
- Properties owned by the fund via an interposed unit trust: where the unit trust leases to a related party provides and rent relief, the units may be categorised as an in-house asset. This may result in the fund being required to sell the units in the trust if the in-house assets threshold is exceeded.
We caution that contraventions of these sections can be very costly and in extreme cases could result in the fund being rendered as ‘non-complying’ with 45% tax being imposed on the value of its opening assets.
The good news is that the Australian Taxation Office has issued non-binding practical guidance on their compliance approach for the 2019-20 and 2020-21 financial years, noting that they “will not take action where an SMSF gives a tenant – who is also a related party – a temporary rent reduction during this period”.
Further, the ATO advises that that they will not treat the investment in the interposed entity (such as a non-geared unit trust) as an in-house asset for the current and future financial years as a result of a deferral of rent being provided to the tenant due to the effects of the COVID-19 crisis on the tenant.
However, we caution SMSFs to ensure that any rent reduction offered is consistent with the approach taken by arm’s length landlords and that the rent relief concession is not misused. Failure to do this may result in the fund’s auditor noting in the Auditor Contravention Report that they are unsatisfied that the rent relief is on commercial terms and the ATO will likely investigate further.
What you have to do
Documentation and a commercial basis are key! You will need to be able to demonstrate to the auditor:
- That the rent relief looks reasonable, in terms of an arm’s length basis that would be provided to an unrelated party; and
- That the relief was documented and offered as a result of the adverse financial impacts of the COVID-19 crisis on the tenant.
It is very important to check your existing lease agreement to determine if it has a clause that allows the landlord and tenant to agree to vary the lease collection and amount. If it does not, then a new lease agreement should be prepared.
A minute should be prepared and signed by both the landlord and the tenant advising of the nature of the rent relief, the reasons for it and further explanations as required.
How do you meet these requirements?
You may wish to review the National Cabinet Mandatory Code of Conduct for commercial leasing principles for advice on what may be considered to be an arm’s length relief and the circumstances in which it may be suitable. A practical example is shown in Appendix I of the Code.
Briefly, the Code suggests that tenants suffering financial stress or hardship as a result of the COVID-19 Crisis may be defined by their eligibility for the Commonwealth Government’s JobKeeper program (generally a 30% fall in turnover compared with last year).
The Code suggests that any agreed arrangements should take into account the impact of the COVID-19 Crisis on the tenant, with specific regard to its revenue, expenses and profitability and that such arrangements should be proportionate and appropriate based on the impact plus a reasonable recovery period.
The ATO has stated in non-binding guidance on their compliance approach that they will not take action against a SMSF who provides a rent reduction, waiver or deferral to a tenant, including a related party, because of the financial impacts of the COVID-19 Crisis in the 2019-20 and 2020-21 financial years.
We note that the rent reduction should be on a commercial arm’s length basis, being reasonable to the pandemic impact suffered by the tenant, and is fully documented in a minute signed by both the landlord and the tenant.
Finally, we recommend that SMSF landlords obtain professional advice about how they can minimise the risk to the SMSF from contravening any applicable legislation as there can be significant consequences if the trustees get this wrong.
#SMSF #Landlords #RentRelief #COVID-19
The material and contents provided in this publication are informative in nature only. It is not intended to be advice and you should not act specifically on the basis of this information alone. If expert assistance is required, professional advice should be obtained.