Newsletter No. 3, March 2014

Understanding the active member test

You could lose almost half of your retirement savings by making contributions into your Self Managed Superannuation Fund (SMSF) while being overseas.

You see, there are three tests that your SMSF must satisfy in order to meet the residency status.  The first is that the SMSF must be established in Australia or holds any asset in Australia; the second is that the “central management and control” of the SMSF must be ordinarily in Australia, and; the third is that the SMSF has no active members or if there are active members then at least fifty per cent of the assets in the SMSF are held by active members who are Australian residents.  The third test is referred to as the “active member test”.

It is the active member test that I have not spent too much time in the past explaining how it works. Recently I attended the SMSF Professionals’ Association of Australia conference in Brisbane and I was surprised to hear that it is this test that is causing many SMSFs to no longer satisfy the residency status.

A member of an SMSF is considered to be an active member if they contribute to their SMSF or if contributions are made to the SMSF on their behalf.  In addition, if a member of an SMSF is no longer an Australian resident for income tax purposes, then they will become a non-resident member.  Under the active member test, if an SMSF has any non-resident members, and non-resident members make contributions into their SMSF, then their total superannuation balance must NOT be more than fifty per cent of the balance belonging to all resident active members of the SMSF.

For the purposes of the residency test the concept of “contributions” is much broader than the one most people typically think of. It includes:

  • cash contributions
  • transfer of assets as in-specie contributions
  • spouse contributions
  • Government superannuation co-contributions
  • a roll-over superannuation benefit
  • a direct termination payment
  • a lump sum superannuation payment from a foreign superannuation fund
  • superannuation guarantee shortfall amounts
  • transfers from the Superannuation Holdings Special Account

Therefore, if contributions are received for a member of an SMSF while the member is a non-resident, and the contributions when added to the balance of the non-resident member amounts to more than fifty per cent of the total balances of the active members then the SMSF will not satisfy the residency status.

SMSF trustees are getting this test wrong by measuring the balance in the SMSF of resident members against the balance of non-resident members.  It is not the balance of all members that is important, it is the balance of all “active” members that is measured for this test.

To ensure that at least fifty per cent of the balance belongs to resident active members, it will be necessary for each resident member to be an “active” member by making contributions, or having contributions made for them.

For example, John and Laura are members of an SMSF. John has an account balance of $200,000 and Laura has an account balance of $50,000. Laura moves to London for work which makes her a non-resident for income tax purposes. Laura makes a contribution into the SMSF of $10,000 while she is overseas. John does not make any contributions that year and is therefore not an active member. The SMSF is no longer a resident fund, because even though John’s account balance is more than fifty per cent of the SMSF’s account balance, he is not an active member.

SMSF trustees must consider the impact of any contributions into their SMSF while any member is a non-resident.  Basically non-resident SMSF members should not make contributions into their SMSF if their balance in the SMSF is at least fifty per cent of the total assets that belong to active members.

If the SMSF becomes a non-resident fund, it is a non-complying SMSF and its earnings and assets will be taxed at a whopping forty-five per cent in the first year of its non-residency.

Monica Rule worked for the ATO for 28 years and is a Self-Managed Superannuation Specialist Advisor. Monica is the author of “The Self Managed Super Handbook – Superannuation Law for Self Managed Superannuation Funds in plain English” www.monicarule.com.au. Her advice is general in nature and you should seek advice that relates to your specific circumstances before making any decisions.