Background to the non-arm’s length income provisions
Pursuant to S.295-545, the taxable income of a complying superannuation fund (including an SMSF) is split into the following components:
- The non-arm’s length component for an income year – being the superannuation fund’s ‘non- arm’s length income’ for the income year less any deductions to the extent that they are attributable to that income. This highest marginal tax rate (i.e., 45% in the 2020 income year) applies to the non-arm’s length component of the superannuation fund’s taxable income. Refer to S.26(1)(b) of the Income Tax Rates Act 1986.
- The low tax component for an income year – being the remaining part of the superannuation fund’s taxable income for the income year (i.e., the fund’s total taxable income less the non- arm’s length component). The rate of tax payable on the low tax component of a fund’s taxable income is 15%. Refer to S.26(1)(a) of the Income Tax Rates Act 1986.
TAX WARNING – Pension exemption does not apply to NALI
SMSFs cannot apply the pension earnings exemption in respect of the fund’s NALI. Refer to S.295-385(2)(a) and S.295-390(2)(a). Accordingly, the highest marginal rate will apply to a fund’s NALI, regardless of whether the underlying asset is funding a retirement phase pension.