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Archive December 17, 2020

SMSF asset compliance considerations

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Investing in certain asset classes or implementing particular structures to do so can result in additional compliance issues for SMSFs. Mark Ellem, head of education at Accurium, identifies areas where trustees will need to pay extra attention. 

When an SMSF considers acquiring an asset or making a new investment, there are several compliance rules and issues that need to be considered at the time of acquisition. For example:

  • whether the asset can be acquired from a related party,
  • does it fit within the fund’s investment strategy,
  • will the investment be regarded as an in-house asset,
  • does the acquisition meet the sole purchase test, and
  • is the acquisition or investment permitted under the trust deed.

In addition to these considerations at the time of acquisition, the ongoing and potential future compliance and audit requirements should also be factored in when the trustees are weighing up whether a particular investment is one the SMSF should be making. SMSFs can have additional layers of compliance when compared to using other non-super structures when acquiring and holding an asset. These ongoing compliance requirements, potential costs and hurdles should be understood by SMSF trustees prior to purchase.

Let’s consider what these issues are for various types of commonly held SMSF assets.

Real estate

One of the most popular asset types held by an SMSF is real estate, which presents several ongoing compliance issues that SMSF trustees need to be aware of. A few of these are discussed below.

• Year-end market value – The market value of real estate held by an SMSF must be considered by the trustee(s) each and every 30 June. SMSF trustees need to be aware of the potential ongoing costs associated with determining and substantiating market value for real estate. Potential costs include the expense of obtaining an independent valuation or other forms of market-value evidence and additional administration and audit costs for an SMSF owning real estate. The ATO has recently released guidance on the evidence trustees need to provide their auditor to substantiate the market value used in the fund’s financial statements (search QC 64053 on the ATO’s website).

• Leasing real estate to a related party – Where the property is leased to a related party, trustees must ensure it continues to meet the definition of business real property (BRP). There should be an examination of the lease agreement to ensure the terms are being adhered to, including any review of the market of rents and that the rental agreement has not expired. In addition to the initial costs to draft and execute a lease, there would be ongoing costs to extend, renew and vary it. This may include the cost of obtaining an independent assessment of market rental value. Variation to a lease may also be caused by unexpected market conditions, for example, the COVID-19 rent relief measures.

• Residential property – Where the property is residential, the SMSF auditor may require evidence it has not been used by a fund member, relative or related party. This could be brought into question where the property is situated in a popular holiday destination and is rented out as holiday rental accommodation. An SMSF auditor may require the trustee(s) to provide evidence the property has not been used by a related party and that this is provided at each annual audit.

• Charges over the property – The SMSF auditor may wish to conduct a search each audit year to ensure the property has not been used to secure any borrowings, unless permitted. This may incur additional costs for the SMSF.

• Investment strategy – It is not uncommon for an SMSF holding real estate to have no other assets, apart from its bank account. The ATO and SMSF auditors have a focus on funds with single-asset investment strategies to ensure compliance with the requirements under the Superannuation Industry (Supervision) (SIS) Act 1993. SMSF trustees need to be prepared to dedicate time to ensure the investment strategy will stand up to audit scrutiny.

• LRBAs – Real estate held via a limited recourse borrowing arrangement (LRBA) is subject to certain SIS requirements. For example, the property cannot be developed. SMSF trustees need to be mindful of the limitations and restrictions of property purchased using an LRBA.

Units in a non-related unit trust

A common scenario is where two or more unrelated SMSFs hold units in a unit trust and that unit trust acquires an asset, typically real estate. In these cases, each SMSF must not hold more than 50 per cent of the issued units in the unit trust. This, together with other requirements, ensures the SMSF’s investment is not treated as an in-house asset.

• Ongoing assessment of relationships – In addition to an initial assessment to ensure a unit trust is not a related trust of each of the SMSF unitholders, there will be a requirement for an ongoing annual assessment to ensure this remains the case. This would include determining whether there has been any change in circumstances that makes members from different SMSFs related parties. For example, a member from each fund jointly acquiring a rental property together or children of members from each SMSF getting married to each other may mean they become related parties. The trustee should not be surprised if their auditor reviews the structure each and every year.

SMSFs can have additional layers of compliance when compared to using other non-super structures when acquiring and holding an asset.

• Exit plan – It is important when this type of structure is entered into that the SMSF trustees are aware of the potential issues when one of the SMSF unitholders wants to dispose of their units in the unit trust. The assessment of whether the investment is caught by the in-house asset rules is examined from the perspective of each SMSF unitholder. A unit trust may be a related trust to one of the SMSF unitholders, but not another SMSF unitholder. For example, a unit trust is set up with three unrelated SMSF unitholders, SMSF A, SMSF B and SMSF C, each holding one-third of the issued units. SMSF C unitholder wants out and SMSF A offers to buy the units at market value. From a practical perspective, this achieves the desired outcome. However, there is now a significant compliance issue for SMSF A as it now holds two-thirds of the units in the unit trust. As SMSF A now holds more than 50 per cent of the issued units, the unit trust is a related trust of SMSF A and caught by the in-house asset rules. From SMSF B’s perspective, it still holds units that represent less than 50 per cent of the issued units and so the unit trust is not a related trust of SMSF B. Assuming SMSF A’s unitholding value represents more than 5 per cent of the total value of its assets, it will be required to dispose of the excess in-house asset amount by the following 30 June. This may cause issues, particularly where the asset held by the unit trust is the business premises of the business operated by members from one or more of the SMSFs. SMSF trustees in this type of non-related unit trust structure need to have an exit plan prior to executing the acquisition to deal with unitholders wanting to dispose of their interest, either voluntarily or involuntarily, such as when a member passes away.

• Market value – As with real estate, SMSF trustees who hold units in a unit trust, or any other unlisted entity, will be required to determine and substantiate the market value each and every 30 June.

Division 13.3A unit trusts

Another common scenario is where an SMSF acquires an asset via an interposed unit trust that complies with SIS regulation 13.22C in Division 13.3A, commonly referred to as a non-geared unit trust. This type of structure can be used where the SMSF is the sole unitholder or where the fund and a related party are the unitholders. While the unit trust is prima facie a related trust of the SMSF, the SIS provisions exempt the units from being treated as an in-house asset, provided it complies with the requirements of SIS regulation 13.22C.

One of the most popular asset types held by an SMSF is real estate, which presents several ongoing compliance issues that SMSF trustees need to be aware of.

• Checklist of prohibited events – SMSF trustees need to be aware of the consequences where certain events occur after the structure has been established. These events are commonly referred to as 13.22D events and will cause the unit trust to be forever tainted as an in-house asset. A 13.22D event can occur simply through the SMSF buying listed shares with surplus cash. Rectification can be a challenge, as well as costly. The fund auditor will need to assess, during each annual audit, that there have been no 13.22D events.

Overseas assets

Two issues that arise where SMSFs acquire assets overseas, particularly direct assets such as real estate, are ownership and market value. Often local laws prohibit the asset being held by the SMSF and an interposed entity is required to hold the asset as a custodian or nominee, resulting in additional costs. Without relevant documentation, substantiating asset ownership can be a challenge.

Market value is also a challenge and may require engaging a local valuer to provide a market-value report. Again, this may be more expensive than arranging a valuation of a property situated in Australia.

• Language used – Where documents are not in English, translation costs may be incurred so that the accountant and auditor can understand them.

• Foreign currency translation – Where a transaction in relation to the overseas asset is in a foreign currency, there may be additional accounting and compliance costs associated with converting the amounts into Australian dollars and dealing with the related income tax consequences. Further, the SMSF may have an obligation to lodge local foreign jurisdiction returns and pay taxes. Generally, the administration and compliance costs associated with an SMSF owning an overseas asset, such as real estate, will be higher than where the asset is situated in Australia.

Collectables and personal-use assets

The rules for an SMSF owning these types of assets are very prescriptive and are generally seen as a back-door prohibition on SMSFs holding such assets. Commonly, when SMSF trustees are made aware of the ongoing compliance requirements of these types of assets, they decide to acquire the asset outside of their fund.

Forewarned is forearmed

Advice at the time an SMSF acquires an asset, or makes an investment, is important to ensure the superannuation rules are followed, but such advice should not end there. Where SMSF trustees have the knowledge and understanding of the ongoing compliance requirements for different types of asset classes, preparation of the annual financial statements and performance of the annual independent audit can run a lot smoother. It also prompts forward planning to deal with potential future events. In fact, it may even lead to the SMSF trustees deciding not to acquire the asset or make the investment. Educating trustees on these and other asset-type issues can reduce the risk of compliance matters or simply lessen the level of annual audit angst for trustees, their accountants and even the auditor.

Source: smsmagazine.com.au

Can an SMSF claim this as a deduction?

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SMSF auditors have been witness to some outlandish expense claims and get frequently asked: “Can an SMSF claim this as a deduction?”

One of the most extraordinary claims was for the cost of a 20,000-litre water tank purchased for a property owned by the fund. Unfortunately, it was a small two-bedroom townhouse that couldn’t accommodate a 1,000-litre tank, let alone a 20,000-litre one.

And while it was purely coincidental that the trustee’s residential address was in a rural area, the expense was quickly identified as a mistake and promptly removed from the fund.

The current COVID-19 crisis has only highlighted more uncertainty, with a recent private binding ruling (PBR) providing additional insight into allowable deductions for SMSF expenses claimed by trustees.

The ATO has said that while PBRs cannot be relied upon by taxpayers, this particular ruling applies to the 2021 financial year where the fund attempted to claim a deduction for the costs of a course and subscription for share trading.

Nature of expenses

The general nature of a deductible expense extends to whether it relates to assessable income or not. Where an expense relates to the gaining of non-accessible income (such as exempt current pension income [ECPI]) or when it’s capital in nature means that it is non-deductible. 

It is also essential to make sure that the expense is in line with the assets and investments outlined in the fund’s investment strategy and also allowed under the trust deed and SIS.

Paragraph 4 of TR 93/17 states that subject to any apportionment of expenditure, the following expenses are deductible:

  1. Actuarial costs
  2. Accountancy fees
  3. Audit fees
  4. Costs of complying with SIS (unless the cost is a capital expense)
  5. Trustee fees and premiums for an indemnity insurance policy
  6. Costs in connection with the calculation and payment of benefits to members
  7. Investment and adviser fees and costs
  8. Subscriptions for memberships paid by a fund to industry bodies
  9. Other administrative costs incurred in managing the fund

General deductions

There is even more confusion about general deductions, which get classified in this way when a specific deduction provision is absent.  

These types of deductions are subject to exclusions that include:

  1. Whether it is incurred in gaining or producing assessable income
  2. Whether it is necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income

According to the ATO website, expenses that fall under this category (unless a specific deduction provision applies) include:

  • Management and administration fees
  • Audit fees
  • Subscriptions and attending seminars
  • Ongoing investment-related expenses

Several other exclusions also apply in understanding whether a general deduction is allowable. An SMSF cannot deduct a loss or outgoing to the extent that it is a loss or outgoing of capital (or of a capital nature) or private or domestic nature. 

Some income tax laws also prevent the fund from deducting an expense as well as where the fund produces non-assessable income, such as ECPI. 

Additionally, a fund cannot claim more than one deduction for the same expenditure and can only claim under the most appropriate tax provision for the expense. 

Investment-related expenses

A very well-debated question within the SMSF industry is whether investment-related expenses are deductible or not. 

The answer is that it’s the exact nature of these expenses which is critical in determining deductibility. 

The focus of the PBR was whether an SMSF could claim a deduction for the reimbursement of the costs of a course and subscriptions for share trading purposes under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997).

The answer from the ATO was a resounding no.

One of the reasons is that subsection 295-85(2) of the ITAA 1997 operates to modify the operation of ordinary income and general deduction provisions so that the CGT rules are the primary code for calculating gains or losses realised by a complying SMSF on the disposal of CGT assets. 

The exception to this treatment includes CGT assets that are debentures, bonds, bills of exchanges, certificates of entitlement, promissory notes, deposits with a bank or other financial institution, or a loan. 

While there is also an exception for trading stock, shares and derivatives of shares are not trading stock because they are covered assets under section 275-105 of the ITAA 1997.

Courses and subscriptions not deductible

Any gains made by an SMSF trading in shares will be assessable under the CGT provisions, and any expenditure regarding courses or subscriptions is capital in nature. 

The costs incurred for the course and the subscriptions relate to specific activities that will only generate capital gains and not ordinary income and are therefore not deductible. 

Additionally, they have not been incurred in the administration, operation or management of the SMSF and are not of the type as referenced in paragraph 4 of TR 93/17.

In particular, the PBR noted that the subscriptions were not for memberships to the Association of Superannuation Fund of Australia Limited and other such industry bodies. 

Based on the information provided, the expenses were not incidental, relevant or sufficiently linked to any of the fund’s trading activities.  

Seminar-type expenses may also not be deductible if the expenditure does not have a sufficient connection with assessable income and is an investment of capital made to prepare for the future commencement of an investment business as found in Petrovic and FCT (2005) 59 ATR 1052, [2005] AATA 416. 

In this case, the taxpayer was denied a deduction in respect of property seminars after it was found that the expenditure was not incidental to his pre-existing rental income. 

Conclusion

Apart from depreciating assets, SMSFs should be claiming fund expenses in the year the trustee incurs them. From a compliance point of view, it is also best practice to have all invoices in the name of the SMSF and to pay them directly from the fund’s bank account.

Where the fund incurs expenses specifically relating to assets that generate capital gains or losses, a deduction cannot be claimed under section 51AAA of the ITAA 1936.

To this extent, the latest PBR makes it clear that trustees are unable to claim a deduction for the costs of courses and subscriptions that relate to share trading activities which are capital in nature. 

Which means that the answer is no, an SMSF can’t claim this as a deduction.

Shelley Banton, head of education, ASF Audits
Source: SMSF Adviser

Analysis of SMSF running costs

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Further analysis of the running costs of an SMSF has found they can be run for less than $3000 a year at an average cost of 1.34 per cent a year for a $200,000 fund and 0.5 per cent for a $500,000 fund.

The figures were calculated by mSmart, a fintech firm that produces retirement planning models and apps, and given to the House Economics Committee in August, following the recent release of the SMSF Association’s research on the cost competitiveness of SMSFs.

MSmart managing director Derek Condell said analysis conducted by the firm found costs ranged from around $2200 a year up to $3800 a year, depending on the use of financial advice and the use of accounting and fund administration software.

“By use of the accounting software technology, [such as Practical Systems Super] in the SMSF sector, funds can be operated at very, very, low fees, such as say $2200 to $3000 per annum, including investments and brokerage,” Condell said.

He said given the difficulty of comparing like-with-like fee structures across a range of service providers in the SMSF sector, it was not possible to produce “scientifically robust” results, but mSmart’s comparison showed  costs could be held below $3000 a year.

“The low costs are a major reason for the explosion in numbers of SMSFs that has occurred in the last 10 years,” he said, adding the sector has been innovative, efficient and made use of high-speed processing in its systems.

“This has occurred in a sector that is often labelled as ‘fragmented’ and ‘a cottage industry’. By comparison, the non-SMSF sector – retail sector in particular – has an abundance of excess capital and resources to create efficiencies, but rarely shakes itself loose from the legacy systems that it created 30 years ago.

“These efficiencies, speed and innovation are largely as a result of the widespread use of accounting software in the industry and its move ‘to the cloud’, and the low costs that accompany the software.

“This software effectively brings ‘straight-through processing’ by linking stockbrokers, fund managers, banks, accountants and administrators all for the benefit of the SMSF trustee. This remarkable software cuts out many costly and inefficient services that APRA (Australian Prudential Regulation Authority) funds are so heavily wound into.”

The mSmart figures echo those released earlier this year by the ATO, which found the median annual operating expense level for an SMSF in 2017/18 was $3923.

Source: smsmagazine.com.au 

Deadline to amend discretionary trusts fast approaching

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lients with discretionary trusts that hold residential land in NSW will need to amend their trust deed to exclude foreign persons as beneficiaries by the end of this month to avoid paying the NSW foreign duty and land tax surcharge.

With 31 December now only a few weeks away, SuperCentral has reminded professionals and clients about the changes in NSW to the Land Tax Act 1956 (NSW), Land Tax Management Act 1956 (NSW) and the Duties Act 1997 (NSW).

The amendments mean that a discretionary trust will be deemed as foreign for the purposes of surcharge land tax and surcharge duty, unless the trust prevents any foreign person from being a potential beneficiary of the trust, which may require amendments to the trust deed, SuperCentral explained.

SuperCentral also warned that while the changes apply to NSW, it is important to note that Victorian and Queensland discretionary trust deeds may be in a similar position as NSW.

 

Earlier this year, Cooper Grace Ward Lawyers (CGW) warned that in order to avoid foreign land tax and duty surcharges, the trust deed needs to be amended before midnight on 31 December 2020 to exclude all foreign persons as eligible beneficiaries, and prevent any amendment to the exclusion of foreign persons as beneficiaries, so that the exclusion is permanent and irrevocable.

“This is the case even if none of the eligible beneficiaries of a discretionary trust are foreign persons,” the law firm stated in an online article.

The trust deed and all the variations should then be submitted to Revenue NSW for confirmation that the trust is not a foreign person, it said.

If a discretionary trust is deemed a “foreign person”, CGW warned that surcharge duty of 8 per cent and surcharge land tax of 2 per cent will be payable on any residential land in NSW acquired or owned by the trust since the surcharges were introduced in 2016.

“This can also be the case where the discretionary trust is a shareholder or unitholder in a company or unit trust that owns the residential land,” it said.

Residential land for these purposes has a wide meaning, the law firm stated, with the surcharges applying to vacant or substantially vacant land (including farming property) that is zoned for residential purposes.

“These new changes apply retrospectively, so that if a discretionary trust paid surcharge duty or land tax but amends its trust deed to permanently exclude foreign persons as beneficiaries before 31 December 2020, the trust may apply for a refund of the surcharge,” it said.

“[However, if a discretionary trust] owns residential land in New South Wales but does not amend its trust deed to permanently exclude foreign persons as beneficiaries before 31 December 2020, the surcharge duty and land tax may apply for prior years since the surcharges were initially introduced in 2016.”

Different transitional rules apply to testamentary trusts, it said.

Source: SMSF Adviser

SMSF trustee guide to navigating a way through pandemic

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The COVID-19 pandemic has affected everyone’s lives and SMSF trustees are no exception. With Melbourne coming out of lockdown, it seems the worst is behind us although, as much of Europe and the US reminds us, COVID-19 remains a pernicious foe.

So assuming Australia is returning to a degree of pre-coronavirus normality, it’s time for trustees to focus on how best to position their fund for 2021 – both from regulatory and investment perspectives.

If trustees are looking for one word to describe investment markets in 2020, volatility would likely be on the mind of many. Equity markets have see-sawed in response to the economic prognosis caused by the pandemic, reinforcing why SMSF trustees must not only have a documented investment strategy (it’s a legislative requirement) for their fund but review it regularly.

Comprehensive reviews are not just necessary to gauge the investment performance of a fund and, if necessary, adjust the investment strategy. Other events can necessitate the need for a review such as the death of a member or a relationship breakdown involving fund members.

It’s also important for trustees to have an exit strategy, particularly if there is a dominant trustee or the fund has assets that may be difficult to sell.

Remember, too, for those SMSFs owning residential or commercial property, the fund may not be receiving full rental payments under their lease agreements because of COVID-19, meaning less income.

Under normal circumstance, if trustees agree to offer tenants rent relief, it could result in a legislative breach. However, the ATO has confirmed no compliance action will be taken in 2019-20 and 2020-21 for temporary rent reductions, waivers or deferral because of COVID-19.

If rent relief is provided, it is important that the trustees can show that the relief is on commercial arm’s length terms (the national cabinet’s mandatory rental code of conduct can be used as a guide), that the tenant can demonstrate they have been financially impacted by COVID-19, and that the rent relief provided has been appropriately documented.

Considering the devastating financial impact of the global pandemic, some SMSF members may have been tempted to use their SMSF as a source of short-term financial assistance.

With a few exceptions, trustees must understand they cannot access their superannuation early from their SMSF, even for a short period. (Earlier this year, legislation was amended to allow superannuation members, including SMSF members financially impacted by COVID-19 to access up to $10,000 in 2019-20 and another $10,000 this financial year until December 31, 2020.)

Legislative changes

Investment decisions are always part and parcel of a trustee’s remit. COVID-19 has forced legislative changes, as well as prompted the ATO to allow several important compliance relief measures for trustees who have been affected by the pandemic, so SMSFs need to keep abreast of and factor these changes into their planning for 2021.

The minimum drawdown requirements for account-based pensions and similar products have been temporarily reduced by 50 per cent for 2019-20 and 2021-21. This measure is designed to assist retirees by reducing the need to sell investment assets (often at depressed prices) to fund minimum drawdown requirements. It is not compulsory to reduce pension payments in line with the new reduced drawdown requirements, but if you do, it’s important to document your decision.

Although the standard concessional and non-concessional contribution caps have not changed since the last income year, your eligibility to contribute may have. New legislation allows people aged between 65 and 66 to make voluntary contributions (previously restricted to people below 65) without meeting a work test.

The government is also introducing legislation (which hopefully will be passed soon) to allow people aged between 65 and 66 the ability make up to three years of non-concessional superannuation contributions under the bring-forward rule. The way the bring-forward rules work can be complicated, particularly if you have a sizeable superannuation balance, so professional advice might be needed to ensure the contributions caps are not breached.

It’s also useful to note that if a total superannuation balance is less than $500,000, and not all of the concessional contribution cap was used in 2018-19 or 2019-20, SMSF members may be able to carry forward the unused amount of a concessional contribution cap in those years to the current income year. So a concessional cap for 2020-21 could be much higher than the standard $25,000.

Finally, social distancing and isolation requirements have led to a relaxation of rules so that trustees can now sign financial documents electronically and still satisfy their regulatory obligations. If trustees do intend to go down this path, it is important the system is secure.

COVID-19 has moved the goalposts for trustees even more dramatically than the global financial crisis, with no better evidence than the government-initiated changes to assist SMSFs through this pandemic. It’s imperative, therefore, for trustees to be cognisant of the changes, especially if they are the fund’s decision-maker, because the cost of not doing so may be high indeed.

Written by John Maroney, CEO of SMSF Association
Source: The Australian Financial Review

 

What is an actuarial certificate?

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An actuarial certificate is a document prepared by an actuary that certifies how much of a self-managed super fund’s earnings are derived from its members’ accumulation phases and how much from retirement phases. This information has tax implications. It is used to claim exempt current pension income (i.e. tax-exempt earnings) in the fund’s annual tax return.

When is an actuarial certificate required?

An actual certificate is required whenever an SMSF member moves into the retirement phase and there are one or more other members of the fund that remain in the accumulation phase.

In addition, an actual certificate will be required each year that there is at least one member in each phase if the actuary is using the proportionate method to calculate the fund’s exempt current pension income. The proportionate method is based on the total value of the fund’s assets each year.

However, if the segregated method is used by an actuary to calculate a fund’s exempt current pension income, no actuarial certificate is required, provided that the retirement phase income streams being paid by the fund are one or more of the following types:

  • an allocated pension,
  • a market-linked pension,
  • an account-based pension.

The segregated method separates assets between the accumulation and retirement phases.

Source: superguide.com.au

Clarification on reporting death benefit rollovers and paying death benefits after a rollover

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On 22 June the Treasury Laws Amendment (2019 Measures No. 3) Act 2020 amended the law retrospectively with effect from 1 July 2017 to ensure any untaxed element determined in accordance with section 307-290 of the Income Tax Assessment Act 1997 (ITAA 1997) is not included in the receiving fund’s assessable income.

A transferring fund is still required to apply section 307-290 of the ITAA 1997 to determine if there is an untaxed element in the lump sum being rolled over where they have claimed, or will claim in relation to the benefit, deductions for premiums for certain types of insurance under section 295-465 or 295-470 of the ITAA 1997.

However, where a dependant beneficiary rolls over a death benefit, it is the Commissioner’s view that there is insufficient connection between any deductions claimed by the transferring fund and any lump sum benefits paid by the receiving fund from the dependant beneficiary’s new pension interest, for section 307-290 of the ITAA 1997 to apply to any of those subsequent payments.

That is, where the receiving fund does not claim any deductions for any death and disability insurance offered to the dependant beneficiary as part of their new pension interest in the receiving fund, section 307-290 will not apply to any lump sums paid from that interest.

In light of this, the Commissioner considers SMSFs completing item 16 of the death benefits rollover statement do not need to include an element untaxed in the fund. Any amount that may be determined under section 307-290 can be reported as a taxable component – element taxed in the fund.


Case Study

Anthony is 57 and a death benefit beneficiary. Anthony’s spouse was 64 when they died, Anthony chooses to rollover the death benefit from their SMSF (a fully taxed fund) to an APRA regulated fund and start a pension in the APRA regulated fund.

The death benefit is $200,000 and has a tax free component of $10,000. As the SMSF had claimed deductions for death and disability insurance; applying section 307-290 of the ITAA 1997, an untaxed element arises of $1,000.

When completing the death benefit rollover form:

  • At Label 11 the trustee will enter code Q
  • At Label 16 the trustee will report:
    • a tax free component of $10,000 and
    • a taxable component – element taxed in the fund of $190,000.


Where the receiving fund claims a deduction for insurance premiums under section 295-465 or 295-470 of the ITAA 1997 in respect of insurance offered to the dependent beneficiary as part of their new interest, the fund will be required to apply section 307-290 of the ITAA 1997 to any subsequent death benefit lump sums paid from that interest.

Source: ato.gov.au

 

ATO issues reminder about October TBAR deadline

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The Tax Office has reminded any SMSFs that reports transfer balance account events on a quarterly basis that the report will be due on 28 October where they had an event occur in the September quarter.

In an online article, the ATO stated that where a TBA event occurred in a member’s SMSF between 1 June and 30 September 2020 and any member had a total super balance greater than $1 million, the SMSF will need to report the event.

If no TBA event occurred, they will not need to report, the ATO said.

“The TBAR is separate from the SMSF annual return and it enables us to record and track an individual’s balance for both their transfer balance cap and total super balance,” the ATO explained.

“Different reporting deadlines will apply, if any of your members has exceeded their transfer balance cap, and we’ve sent them an excess transfer balance determination or a commutation authority.”

Back in July, the ATO flagged that it was still seeing some significant errors with transfer balance account reporting, with retrospective reporting, duplicated reporting and late reporting listed as some of the ongoing concerns.

“One of the most significant issues we’re concerned about is late reporting and that’s resulting in members being in excess of the cap for longer periods, thereby needing to commute more from their pension accounts or paying more tax,” ATO assistant commissioner Steve Keating stated.

“Members are at risk of having their pension commuted twice, and this might happen if they have both APRA and SMSF pension accounts, where they commute from their SMSF due to receiving a determination from us, but they don’t report that commutation to us.”

Source: SMSF Adviser 

Investment segregation in an SMSF explained

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When advisers hear the word ‘segregation’ in an SMSF context, they typically think of segregation for tax purposes. Broadly, this type of segregation involves calculating a fund’s exempt current pension income exemption for a financial year under the segregated method, with any capital gains (or losses) in respect of ‘segregated current pension assets’ being disregarded.

Segregated current pension assets are fund assets excluding ‘disregarded small fund assets’ that are invested, held in reserve or otherwise dealt with solely to enable a fund to discharge all or part of its liabilities in respect of retirement phase pensions. Most commonly, segregated current pension assets arise where 100% of a fund’s assets are supporting retirement phase pension liabilities under the ATO’s view of deemed segregation.

This article examines a different kind of segregation; namely, segregation for accounting or investment purposes. In broad terms, investment segregation involves fund assets being designated to particular members or superannuation interests, eg, for the purposes of allocating investment returns and capital appreciation. Investment segregation can essentially be thought of as a form of member investment choice that is implemented within an SMSF. Naturally, all SMSFs provide a certain degree of member investment choice by virtue of being ‘self managed’. However, this article draws a distinction between genuine member investment choice and the typical investment approach for SMSFs where there is a general pool of fund assets that do not ‘belong to’ any particular member.

Investment segregation potentially offers unique planning opportunities due to the flexibility it provides in relation to apportioning growth between different member accounts. For example, with an appropriate allocation of assets, investment segregation can be used to ensure that Member A’s account balance grows faster than Member B’s account balance, or it can be used to ensure that Member’s A retirement phase account grows faster than Member A’s accumulation account. Accordingly, this flexibility can be used to provide more tax effective outcomes, including in respect of the $1.6 million transfer balance cap (‘TBC’).

We now examine the relevant rules for implementing investment segregation in an SMSF. The discussion will focus on allocation of investment returns rather than an apportionment of costs.

The fair and reasonable standard

Regulation 5.03 of Superannuation Industry (Supervision) Regulations 1994 (Cth) (‘SISR’) provides that trustees must determine how investment returns are to be credited or debited to a member’s benefits in a way that is fair and reasonable as between all the members of the fund and the various kinds of benefits of each member of the fund. There is an equivalent rule in relation to charging of costs (see reg 5.02 of the SISR).

This begs the question: what does ‘fair and reasonable’ require? In the context of the usual pooled investment approach, SMSF trustees generally distribute investment returns in accordance with the existing proportions of member benefits in the fund, subject to the terms of the SMSF deed. Naturally, the ‘fair and reasonable’ standard would require adjustments to be made where there are other variables at play, such as new members being admitted or members ceasing membership during a financial year.

The ‘fair and reasonable’ standard allows for departures from the pooled approach where there is a segregation of member investments in place. For example, under such a strategy, Member A could pick certain assets for investment purposes and it would be entirely consistent with the fair and reasonable standard if the investment returns on those particular assets were credited to Member A’s account.

What does the ATO say?

The ATO acknowledge on their website that investment segregation is allowable (‘Super changes – frequently asked questions’ https://www.ato.gov.au/Individuals/Super/In-detail/Super-changes—FAQs/ (QC 51875)):

Where my SMSF cannot use the segregated method to claim ECPI (exempt current pension income), can I still segregate assets for investment returns?

The change which limits an SMSF from using the segregated method only relates to the ability for that SMSF segregate for the purposes of claiming ECPI. So in these cases, even though the SMSF may be required to use the proportionate method to calculating its ECPI, the trustee can still decide which assets will support pension accounts. In essence, the returns on the segregated assets would continue to be allocated to the respective pension account(s) and the allocation of any tax would be done proportionately.

The above commentary from the ATO makes it clear that the rules in s 295‑387 of the Income Tax Assessment Act 1997 (Cth) that preclude certain SMSFs from using the segregated method for claiming exempt income does not preclude such funds from using investment segregation.

Other relevant considerations

The governing rules of the SMSF should allow for investment segregation and the investment strategy of the fund should be appropriately drafted to reflect the principles of member investment choice.

A fund’s investment strategy documentation is also important for a host of other reasons. For instance, in SMSFR 2008/1 [13], the ATO state that if the activities and investments of an SMSF are undertaken in accordance with the fund’s investment strategy, this is a factor that weighs in favour of the conclusion that the SMSF is being maintained in accordance with the sole purpose test. Additionally, under s 55(5) of the Superannuation Industry (Supervision) Act 1993 (Cth) (‘SISA’), SMSF trustees can be afforded a defence against damages when acting in accordance with the fund’s investment strategy and other applicable SISA covenants, including having regard to investment choice (see s 52B(4) of the SISA).

How can this be used?

As explained below, investment segregation may assist in managing a member’s TBC.

The TBC is a cap on the value of assets which can be transferred into tax-free retirement phase. As the TBC is measured through a static system of debits and credits, growth above that cap (ie, $1.6 million limit as indexed) is not tested and does not trigger an excess transfer balance.

Segregation of investment returns provides an opportunity to pinpoint allocation of growth on an asset-by-asset basis, assuming that asset returns and growth can be accurately predicted. For example, if a well-performing parcel of shares is linked to a member’s pension account, that pension can benefit from the growth in the shares (eg, due to large dividends being paid and the share price increasing) without impacting the member’s transfer balance. Take the following example:

Example

Mr and Mrs Renner are members of the Renner Family SMSF. On 1 July 2018, Mrs Renner turned 65 and commenced a pension. Due to the fund adopting investment segregation, it is agreed that the asset supporting the pension is real estate in the fund valued at $1.6 million. Assume that minimum the annual pension payment is made each year in respect of the pension.

Due to decent rental returns and capital appreciation on the real estate, Mrs Renner’s pension account balance increases to $1.85 million by 30 June 2021 which provides a better outcome for her TBC than if she had merely received a proportion of overall fund growth.

Naturally, appropriate records should be retained in relation investment segregation — ie, based on an appropriate and regularly reviewed investment strategy that provides a proper basis for investment segregation.

Moreover, it should be borne in mind that if investment segregation is maintained solely for tax purposes, the ATO may seek to apply the general anti-avoidance provisions in pt IVA of the Income Tax Assessment Act 1936 (Cth), ie, if the sole or dominant purpose of the segregation is to obtain a tax benefit.

Conclusion

If implemented appropriately and authorised under the SMSF’s governing rules, investment segregation can offer unique planning opportunities for SMSF trustees and advisers due to the flexibility it provides in relation to apportioning growth between different member accounts.

Expert advice should be obtained before implementing investment segregation.

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This article is for general information only and should not be relied upon without first seeking advice from an appropriately qualified professional. The above does not constitute financial product advice. Financial product advice can only be obtained from a licenced financial adviser under the Corporations Act 2000 (Cth).

Source: DBA Lawyers

Tax Office gears up for 6-member SMSF bill

Comments Off on Tax Office gears up for 6-member SMSF bill

The ATO has flagged that if the bill to increase the number of members allowed in an SMSF is passed before 1 July next year, its systems may not be ready in time, but it will look to implement workaround solutions.

Earlier this month, a measure announced in the lead-up to the 2018–19 budget to increase the number of members allowed in an SMSF from four to fix was reintroduced into Parliament, after previously being scrapped prior to the federal election.

The amendments will apply from the start of the first quarter that commences after the act receives royal assent.

The bill was referred to the economics legislation committee on 3 September. The committee is due to report back on 4 November.

While the bill was introduced during the September parliamentary sittings, it is expected to be carried over to the November or December sittings, ATO director Kellie Grant told delegates at the Tax Institute National Superannuation Online Conference.  

 

“If the measure is passed by both houses at that time and receives royal assent, we’ll be looking at a 1 January start date,” Ms Grant said.

“Now, should the law commence before 1 July 2021, our systems may not be ready by that stage, but we will have workarounds in place until those system changes are made to allow up to six members in a fund.”

SMSF trustees and professionals, she said, need to be aware that there will be a period of time where their information may not be readily accessible in the ATO’s systems.

“[They should] also be aware that state-based state law may limit the number of individual members in a certain fund, but of course, that can be overcome by appointing a corporate trustee to the fund,” she said.

Commenting on the bill in an online article, SMSF Alliance principal David Busoli noted that if the measure does become law, the effect of additional members on control and investments will need to be carefully considered.

“Also, due to the Trustee Acts in most states — NSW, Qld, Vic, WA and ACT — a corporate trustee will be required,” he added.

Source: SMSF Adviser 

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