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I am currently auditing a Fund for 2022/2023. The Fund has a mixture of commercial real estate, shares & units and cash. During that year the Fund purchased Water Rights (common investment in River regions). The Water rights were inherited (1/3 share) by one of the members of the Fund and the trustees decided to buy the remaining 2/3 from the other beneficiaries as a SMSF investment (they currently have water rights on their balance sheet as well). The Fund paid for the 2/3 from Fund cash and contributed the 1/3 as an in-specie non-concessional contribution. I believe this to be a breach of Section 66 as it does not fall into the asset exemption categories listed. The asset represents less than 3% of the total assets of the Fund as at 30th June 2023. The question is, Is this breach reportable to the ATO? Does the asset need to be disposed of ASAP (The Fund Accountant has already suggested they dispose of this asset). Does this asset fall into the In-house asset rules category, and therefore satisfy 5% rule? Your opinions appreciated.
Hi Michael
Yes I agree that water rights are not going to meet the definition of being business real property so if a SMSF acquires them from a related party there will be a breach of section 66 of SIS.
The owning of the water rights do not become an in-house asset as they are not a loan or an investment in a related party. The water rights however would become an in-house asset if they are rented to a related party by the SMSF.
Re if it is a reportable breach this will depend once you have followed the auditor contravention report instructions / guidelines. It would be a reportable breach to the ATO if:
It is a new Fund in 2022/23.
The trustee has previously breached section 66 of SIS.
If the breach is more than 5% of Fund assets. (You have advised it is only 3%)
The value of the breach is greater than $30,000.
Yes the breach should be rectified as soon as possible and that would be by disposing of the water rights.
Thanks
The Auditors Institute