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Self Managed Super Fund (SMSF) Article
How to avoid falling foul of the ATO
By Tony Negline.
This article may be out of date.
13th December 2006
Recently the ATO has provided important guidelines on how it intends to regulate Self Managed Super Funds.
Between now and the time the ATO became the regulator of SMSFs, about seven years ago, it has been rather soft on small funds that failed to comply with all the various super laws. The ATO admitted that it wanted to educate SMSFs on what it expected funds to do.
Early in November the ATO said that it will increase its surveillance capability and is showing greater willingness to penalise small super funds for a range of legal transgressions.
The type and nature of penalties the ATO can impose is often a cause of confusion. The super laws give the ATO a wide range of options in how it wants to fix a problem. The ATO could make a fund non-complying, accept an undertaking from a fund trustee to fix up a contravention of a law, disqualify the trustee (in 2005/06, the ATO disqualified 28 trustees), suspend or remove the trustee, freeze super fund assets if member benefits may be lost or reduced and lastly seek civil or criminal penalties through the courts against those involved in the breach.
In the financial year a fund’s complying status is removed it effectively looses half its assets in tax penalties. Knowing when the ATO might do this to a fund is therefore quite important. At the end of November the ATO released a Practice Statement (PS LA 2006/19) dealing with what it will take into account when it wants to remove a fund’s complying status.
The law imposes two criteria on the ATO before it can inflict these substantial penalties – the seriousness of the breach and all other relevant circumstances. What do these terms mean?
Firstly, the seriousness of a breach – here the ATO will look at the behaviour of a trustee (was the mistake deliberate or an honest mistake), how a breach has impacted the fund’s assets, if the trustee’s actions has exposed the fund’s assets to unreasonable risk, the number and duration of the breaches and the nature of the breach in the overall scheme of the super laws.
Secondly, other relevant information – has the trustee fixed up the breach, the skill and knowledge of the trustee, the compliance history of the fund before the breach occurred and the events which led to the contravention.
In the 2005/06 year the ATO made 12 funds non-complying.
One area which is continuing to cause the ATO considerable heartache is the issue of illegally withdrawing money from SMSFs before retirement. In the last year the ATO examined 2,500 funds for potential breaches involving 6,600 individuals. This year it has already looked at over 1,700 funds involving almost 4,000 people. A number of people have gone to jail as a result of promoting early access to super. With super account balances growing and SMSFs providing a seemingly easy mechanism to ‘beat’ the super access laws this will probably continue to be a problem. The government will be forced to find a longer term solution if jail terms do not act as sufficient deterrent to promoters of this scam. Hopefully this final solution will not reduce the flexibility of all SMSFs.
The ATO has said that next year it will issue a number of rulings about areas which it finds funds have problems getting right. These areas are:
- Prohibited financial assistance – trustees are generally not allowed to provide financial assistance to super fund members or their relatives; this ruling will help to explain what financial assistance is
- Incidental benefits – super funds must exist for certain purposes; however occasionally a super fund can provide a benefit to a member or their relatives; this ruling will explain when trustees go beyond what the law allows
- What is business real property? Knowing what the different types of property there are and what is or is not allowed?
- Acquiring assets from related parties – this is generally prohibited but there are some important exemptions; this ruling will explain this ruling in some detail.
Over the next two years the ATO will increase its staff closely examining SMSFs from 150 to 500. Last year the ATO looked at over 4,500. In two years time it is hoping to regularly review almost 10,000 funds. This however is still only a small percentage of total SMSFs. To help it ensure compliance with the super laws, those laws require that the fund be reviewed by an external auditor. The ATO want this audit to be vigourous and thorough. A few years ago the ATO said that the external auditors were not doing an adequate job. Auditors are expected to use their professional judgement in working out if they have to report breaches to the ATO. It has recently said that in its view this process has not been working. Expect further refinements in this area soon.
Finally the ATO has said that the number of SMSFs continues to grow. For the last few years, about 2,000 new SMSFs are set up and about 100 are closed. If the current growth rate continues over the next few years then by the mid-2010 there will be over 800,000 SMSF members and total assets in this sector will probably exceed $300b. Already this is a much bigger sector than most people imagined. No one quite knows why this is. At some stage the SMSF space will reach saturation but no one seems to know what that point is.
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