Australia: Property development and SMSFs - Part 2: Investing through a unit trust

Last Updated: 10 March 2012
Article by Andrew O'Bryan

Property development and SMSFs - Part 2: Investing through a unit trust

In the first instalment of the four part series on self managed superannuation fund trustees developing property, we considered the tricks and traps for fund trustees developing property directly.

In this update, we consider the commercial and superannuation law issues associated with developing property through a related or unrelated unit trust structure.

Can a related unit trust undertake a property development?

An option for structuring property development projects is for the fund trustee to invest in a unit trust that holds the development land by subscribing for units in the unit trust. Importantly, where the unit trust is a related party of the fund, the investment will be an in-house asset under section 71 of the Superannuation Industry (Supervision) Act 1993 (SIS Act) unless the requirements of regulation 13.22C of the Superannuation Industry (Supervision) Regulations 1994 (SIS Regulations) are complied with as follows:

  • the trustee of the unit trust is not a party to a lease with a related party of the fund unless the lease relates to business real property;
  • the trustee of the unit trust does not borrow;
  • the assets of the unit trust do not include an investment in another entity (except an approved deposit-taking institution);
  • the trustee has not given a charge over the trust assets;
  • the trustee has not made a loan to another entity;
  • assets acquired from related parties of the fund after 11 August 1999 are business real property acquired at market value;
  • the trustee does not conduct a business; and
  • transactions are on arm's length terms.

In practical terms, this means that the unit trust must be a passive investment vehicle that only invests in real property. The trustee for the unit trust will also be prohibited from borrowing to fund the development. Importantly, the trustee for the unit trust should not conduct a business of property development. Thus, depending on the size and scale of the development, the trustee should consider engaging a third party to develop the land for a fee.

When is a unit trust a related party?

The unit trust will be a related party of a fund where the fund trustee controls the trust as follows:

  • the fund trustee and/or its associates have a fixed entitlement to more than 50% of the income or capital of the trust;
  • the fund trustee and/or its associates have the power to influence the trustee for the unit trust, either directly or indirectly within the meaning of section 70E(1) of the SIS Act (Sufficient Influence); or
  • the fund trustee and/or its associates have the power to appoint or remove the trustee for the unit trust.

An associate of a fund for the purposes of section 71 of the SIS Act includes the members, members' relatives (ie spouse, children, parents and extended family), the partners of a member (ie partners in a law firm), companies a member and/or their relative(s) control and trusts the member and/or their relative(s) control.

A related party also includes a standard employer-sponsor of the Fund (section 10 of the SIS Act). An employer that contributes to a fund on behalf of a member is not automatically a standard employer-sponsor. A standard employer-sponsor is defined in section 16(2) of the SIS Act as an employer that contributes to the fund pursuant to an agreement between the trustee and the employer. An arrangement between the employer and member is not sufficient.

Creeping acquisitions

Where a fund trustee invests in a related unit trust in which a related or unrelated party also invests, the fund trustee may acquire the units held by the other party over time, subject to complying with the provisions of the SIS Act. Keep in mind that here could be capital gains tax implications and where the unit trust is land rich, there may be a corresponding stamp duty liability.

Can a fund trustee invest in an unrelated unit trust?

Where the fund trustee invests in an unrelated or widely held unit trust (ie the entitlements are fixed and fewer than 20 entities do not have a fixed entitlement to 75% or more of the income and/or capital of the trust), the trustee for the unit trust is not required to comply with the requirements of regulation 13.22C of the SIS Regulations. This means that the trustee for the unit trust can borrow to fund the land development without the fund trustee breaching the in-house asset rules in section 71 of the SIS Act.

The unit trust will be unrelated if the fund trustee and its associates do not:

  • have a fixed entitlement to more than 50% of the income and capital of the unit trust. This means that the fund trustee could hold 50% of the units without the unit trust being a related party of the fund;
  • exercise Sufficient Influence; or
  • have the power to remove or appoint the trustee for the unit trust.

Fixed entitlement

If a fund is a related party of another investor in the unit trust and any of the above criteria are satisfied in aggregate (ie the sum of all interests held by related parties of the fund equal a fixed entitlement to more than 50% of the capital and/or income of the unit trust etc), the unit trust will be a related party of the fund.

From a practical perspective, it is important that the units in the unit trust carry equal rights to income and capital such that the fund trustee and/or its associates do not have disproportionate income rights that give a fund trustee effective control of the unit trust. Disproportion income rights could also trigger the non arm's length income provisions under section 295-550 of the Income Tax Assessment Act 1997 (1997 Act).

Sufficient Influence

Whether a fund trustee and or its associates exercise Sufficient Influence is a question of fact to be determined in all the circumstances.

The Commissioner has not elaborated on the meaning of Sufficient Influence in a superannuation law context and the Explanatory Memorandum to the SIS Act does not provide any guidance. The factors likely to evidence Sufficient Influence include the nature of the relationship between the trustee for the unit trust and the fund trustee or one or more associates, such as a family or financial relationship or common directors or shareholders (ie the controlling minds are the same) and whether any inferences can be drawn from events, transactions or patterns of behaviour which show that the entity is able to direct or influence the trustee's behaviour.

Generally, it is difficult to establish Sufficient Influence between unrelated parties dealing on commercial terms because a business relationship usually does not have the same degree of mutual trust and guidance present in personal relationships. However, this is ultimately a question of fact for the fund trustee to determine based on all the circumstances and the relationship between the relevant parties.

Even where two unrelated fund trustees each hold 50% of the units in the unit trust, it is important that the trust operates on a 50/50 basis. It should be evident that decisions are made jointly. There is no room for the silent director. For example, both parties should approve or sign any important documents and both should be signatories to the bank account.

Power to appoint or remove the trustee

Whether a fund trustee and/or its associates have the power to appoint or remove the trustee for the unit trust will depend on the terms of the trust deed for the unit trust and the constitution of the corporate trustee for the unit trust.

From a practical perspective, it is important that the units in the unit trust carry equal rights such that the fund trustee and/or its associates do not have disproportionate voting rights that give the fund trustee effective control of the unit trust.

The constitution of the trustee for the unit trust should be reviewed to ensure that the fund trustee and/or its associates do not have the power to control the trustee by effectively having the power to appoint and remove the trustee for the unit trust by reason that they hold a majority of the shares in the trustee. Generally, each ordinary share in the trustee should entitle the shareholder to one vote. Further, it is important that the chair does not have a second or casting vote where the chair is a representative of the fund trustee and/or its associates.

Can a pre 11 August 1999 unit trust undertake a property development?

Where the fund trustee has invested in a grandfathered pre 11 August 1999 unit trust, a property could be developed within the pre 11 August 1999 unit trust on the basis that the fund trustee's investment in the unit trust continues to satisfy the prudential requirements of the SIS Act. Importantly, the trustee of a pre 11 August 1999 unit trust is not restricted in the investments it is permitted to make under the SIS Act, for example the trustee can borrow, charge its investments, invest in another entity and conduct a business.

As the transitional period ended on 30 June 2009, the fund trustee cannot reinvest distributions and subscribe for additional units without the additional investment being treated as an in-house asset under section 71 of the SIS Act. Further, all distributions must be physically paid to the fund trustee. Therefore, it is important that the unit trust has sufficient cash flow to enter into and fund the transaction without additional investment by the fund trustee.

The trustee for the unit trust must also consider whether the land development is consistent with the terms of the trust deed for the unit trust and an appropriate investment.

Will any distributions to the fund trustee be non-arm's length income?

Where the fund trustee invests by way of a unit trust structure, any income received by the fund trustee may be treated as non arm's length income and taxed at 45% under section 292-550 of the 1997 Act, where:

  • the parties are not dealing at arm's length terms; and
  • the fund trustee receives an amount it would not otherwise have received if the parties were dealing on arm's length terms.

Similarly, income the fund trustee derives as a beneficiary of the trust, other than because of a fixed entitlement to income, will be treated as non arm's length income and taxed at 45%. Therefore, it is important to ensure that the unit trust is a fixed trust, meaning that the entitlement of unit holders to receive income and/or capital from the unit trust is fixed and indefeasible.

On the basis of the recent case of Colonial First State Investments Limited v Commissioner of Taxation [2011] FCA 16, it may be necessary to ensure the power to amend the trust deed for the unit trust does not extent to reducing or varying the rights of unit holders to receive income and/or capital distributions from the unit trust.

Stay tuned for Part 3 where we consider the commercial and superannuation law issues associated with borrowing to develop property and the importance of properly documenting a property development arrangement.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Mondaq Advice Centre (MACs)
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.