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Peter

Jun 23, 2022

Non arms-length income

in SMSF Technical Forum

The audit client has traded water allocations to a related party at $300/ML during the year. The client provided an email from their water trading officer which stated the water source had been trading between $265 and $300/ML this water season.

Review of the 2021 trades for the particular water source on the states water register showed the fund's trade was the largest market price for the year and 2.5x the median market price. There were 230 trades during the year for >$50/ML (considered unrelated transactions) suggesting sufficient marketability of the resource. Trades immediately prior to and following the date of the fund's trade are in line with the median market price for the year. Four trades between $265 and $300/ML were identified, three of these were from the same buyer/seller.

We queried the trade with the director of the water trading company. He has stated the trade is reasonable, however, has not provided specific supporting evidence, only a list of general influences which may impact market price (supply/demand, weather, crops being irrigated, seasonal planning & forward sales). Although, he did confirm the completeness of the states water register.

We have serious concerns regarding the market price used by the fund and the impact NALI will have on the fund's income tax.

Can reliance be placed on this 'experts' opinion of the market price of the trades? If not, what further evidence do you recommend we obtain to assist in concluding upon the arms-length nature of the trade?

3 answers0 replies

Comments (3)

THE AUDITORS INSTITUTE

Jun 28, 2022

Hi Peter

I have no experience with the trading of water allocations.

Guidance re using the work of an expert can be found in ASA 620 - Using the work of an auditor's expert.

If you have serious concerns re the price that the water allocations were traded my suggestion would be to go back to the trustees of the Fund and express your concerns and request an explanation as to how the price was determined.

If you were then not satisfied with the response you would consider a qualification in relation to section 109 of SIS in relation to investment transactions not being conducted on an arm's length basis.

It would be appreciated if auditors with experience in the trading of water allocations could comment further.

Regards

SMSF AAA

Peter

Jul 05, 2022

Replying to

Thanks for your response.

We will be qualifying based on section 109 and lodging a contravention. I have a couple of follow up questions in relation to NALI:

If the tax effect of the NALI is not material is there any requirement to qualify Part A of the audit report?
Do we have any further obligations with regards to NALI other than qualifying the audit report and lodging contravention?

Thank you

THE AUDITORS INSTITUTE

Jul 06, 2022

Replying to

Hi Peter

Thanks.

My view is that if the tax effect of NALI is not material there would be no reason to qualify Part A of the audit report. The tax impact of NALI can be complicated as the higher tax rate can apply to the income from the asset but also any capital gain re the asset.

If you have qualified the audit report and lodged the audit contravention report the only other obligation that you need to do in my view is to advise the trustees in writing of the breach (as required by section 129 of SIS). I would also refer the trustees to the annual return (ITR) and the requirement for them to include NALI specifically in the return.

Thanks

SMSF AAA