Newsletter No. 1, January 2012

“ATO Compliance Plan”

Most people set up SMSFs because of their flexibility and control in being able to manage their own superannuation  savings.  As a trustee of your SMSF, you  control the bank account of the SMSF.  This can sometimes be a temptation to trustees if they find themselves in financial difficulties.

All too often, in the superannuation industry, I come across trustees of SMSFs who have accessed money from their SMSF to pay for their private expenses or debts.

I cannot stress enough why you  should not do this.  You only have to  read recent court cases on the type of penalties imposed by the Courts on trustees that have accessed money in their SMSF without meeting a “Condition of Release”.

Apart from being prosecuted and fined, your SMSF may also be made non-complying.  Once your SMSF becomes a non-complying SMSF, all income received in the SMSF will be taxed at the highest marginal tax rate of 45%.

You may also be disqualified as trustee, which means you can never set up another SMSF again and act as trustee. It is really not worth it.

If you are setting up a SMSF for your retirement, you really need to take an interest in understanding the superannuation law.  Please read my book which is written in plain English and provides common every day examples to help you understand the law.

The Australian Taxation Office (ATO) issues its “Compliance Plan” each year to warn the community of the areas it will focus on.  The 2012 Compliance Plan focuses on six key areas in relation to SMSFs:

1.  Illegal Early Release (IER)

This is where people set up SMSFs and transfer superannuation money from their public retail superannuation fund into their SMSF. They may use a promoter to do this. The promoter charges a fee to transfer the money across and some unscrupulous promoters convince their clients that once the money is in their SMSF, they can withdraw the money and use it for whatever they want.   Please remember, any money rolled into your SMSF cannot be accessed, apart from for investment purposes in accordance with the SMSF’s investment strategy, until you meet a condition of release.  If you access money in your SMSF for private purposes, you will be taxed on it as income in your personal tax return in the year that the money is accessed and both you and your SMSF may also face penalties. The ATO reviews SMSFs’ first annual tax returns to ensure SMSFs are meeting all the superannuation law and are entitled to receive tax concessions and their Notice of Compliance.

2.  Auditor Contravention Reports (ACR)

One of the requirements of a SMSF is that it must be audited by an approved independent auditor at the end of the financial year prior to lodging its annual tax return.  If your SMSF has contravened any of the superannuation law, the fund’s auditor is obliged to report the contravention to the ATO in an Auditor Contravention Report.  The ATO reviews working papers of auditors who audit SMSFs to ensure that they are doing their job.

3.  Related Party Transactions

Related party transactions refer to such things as lending money to members or relatives which is prohibited; or lending money to your company/business of which up to 5% of the total fund assets value is allowed. The ATO will scrutinise these transactions to ensure that the SMSF is conducting its investments in accordance with the law.

 4.  Exempt Current Pension Income (ECPI)

While a SMSF pays 15% tax on its earnings, once a SMSF enters a pension phase its earnings are exempt from tax.  If there are two members in the SMSF and only one member is receiving a pension, than the SMSF will have to segregate certain assets specifically for the purpose of paying the pension or adopt a proportional approach which requires an actuarial certificate.  The trustees of the SMSF also need to ensure that minimum pension payment requirements are met. This area of the taxation law in not covered in my book as it is not part of the Superannuation Industry (Supervision) Act 1993. Please consult your accountant to ensure that your SMSF has used the correct method to calculate the ECPI and meets the taxation requirements.  There are a number of SMSFs that are using the proportional method and claiming ECPI and still not meeting the actuarial certificate requirements. Under the proportional method an actuarial certificate must be obtained before lodging the SMSF’s annual return as failure to do so may see the deduction claimed for ECPI being disallowed and penalties being imposed.  Also, if the minimum pension standard hasn’t been met, the pension doesn’t meet the definition of a superannuation income stream and ECPI provisions don’t apply.

5.  Non-Arm’s Length Income (NALI)

The Taxation legislation sets out four different types of non-arm’s length income.  One being income received as a beneficiary of a trust other than by virtue of holding a fixed entitlement.  If a trust registers itself as a discretionary trust, the intention is to distribute income at the discretion of the trustees.  As such, beneficiaries do not hold a fixed entitlement to the income of the trust.  Any distributions received by an SMSF are considered to be NALI and should be taxed accordingly.  In addition, if a fund derives income as a beneficiary of a trust through holding a fixed entitlement, the distributions would also be NALI if the fixed entitlement or income was received under a scheme where the parties were not dealing with each other at arm’s length and the amount of income derived was more than if the parties had been dealing at arm’s length.   Such income from discretionary trusts must be correctly identified on the fund’s tax annual return as it receives different tax treatment (i.e. 45%) to the fund’s other income (i.e. 15%).  There are some SMSFs not reporting NALI at the correct income tax return label and are therefore not paying the correct amount of tax.  Some SMSFs are declaring the NALI at the correct label but not taxing it at the correct tax rate.  This area of the taxable law is also not covered in my book.  Please consult your accountant to ensure that if your SMSF has received any NALI, it has correctly calculated the fund’s tax.

6.  Reporting of Contributions and Excess Contributions Tax

Contributions paid into a SMSF are subject to annual caps.  Contributions in excess of the caps will be subject to an excess contributions tax which could be up to 93%.  The ATO reviews contributions to identify cases where the caps have been exceeded and issue assessments for excess contributions tax where appropriate.

Monica Rule is the author of “The Self Managed Super Handbook”.  Her advice is general in nature and readers should seek their own professional advice before making any financial decisions.

Monica Rule