Commissioner tightens compliance with SMSF trustees, what are you doing wrong? – Management of funds/REITs

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The pension supplement was introduced to ensure that taxpayers have money set aside for their retirement in addition to government support.

When paying pension contributions, you have the option of investing your money in:

(i) a registered fund where decisions about how your pension contributions are invested are made on your behalf by a registered fund manager depending on the type of risk strategy you choose to adopt; gold

(ii) a self-service superannuation fund (SMSF), which allows you to have more control over how the money you save for retirement is invested.

However, there are advantages and disadvantages to investing your funds in an SMSF. This means that despite the autonomy you have as an SMSF trustee to choose where to invest your super contributions, you are also responsible for the SMSF making a complaint. If you are found to be non-compliant, the ATO can take a number of actions against you.

SMSF trustees are responsible for ensuring that the fund complies with superannuation laws and other relevant rules. If SMSF trustees fail to comply with these rules, whether accidentally or deliberately, the SMSF may be in breach of the relevant laws.

The ATO has released information that during 2023, measures were taken to issue $29 million to SMSF trustees and their members in income tax, administrative penalties and interest, and 753 SMSF trustees were disqualified for breaching relevant superannuation laws.

It is paramount that you are aware of your responsibilities as an SMSF trustee. Below is what we consider to be common breaches by SMSF trustees that may attract punitive action from the ATO.

  1. Loan to members

An SMSF is prohibited from lending money from the fund to a member or a member’s relative. And this regardless of the commercial nature of the arrangement or the benefits it may have for the fund.

However, an SMSF can lend money to a related business but strict rules must be followed and failure to do so can result in penalties of up to $16,500 or other action from the ATO. These amounts cannot be paid out of any funds or assets of the SMSF and individual SMSF trustees and directors of SMSF corporate trustees are personally liable for any penalties imposed on them.

  1. Investment in high risk assets

Investing in high-risk assets cannot in itself be considered a breach of superannuation laws, but a risky investment strategy may not be consistent with the SMSF’s investment strategy. In that case, it may be a violation.

  1. An SMSF allowing a member to live in another member’s residential property.

The “sole purpose test” requires the SMSF to be for the benefit of members leaving. If a member lives in a residential property owned by another SMSF member, it is likely that this will be considered to contravene the “sole purpose test” or is only for the member’s retirement.

An SMSF member can only live in a residential property owned by the SMSF after they retire and the property has been transferred from the SMSF to the member, subject to transfer tax (State Tax) implications.

  1. Investing in a related SMSF that exceeds the “5% rule”

Investing in a related entity SMSF is not prohibited, but is very limited and requires many conditions to be met. Failure to comply none rules may lead to violations.

Under the “5% rule”, the value of any investment in a related party SMSF, related trust or SMSF asset that is leased with a related party cannot exceed 5% of the value of the SMSF. This is difficult to achieve unless your SMSF is reasonably large. For example, for an SMSF that has a total value of $2 million, the sum of all investments in related entities cannot exceed $100,000.

  1. Life insurance and purchase/sale contracts

If a life insurance policy is used in the purchase/sale agreement, the life insurance policy cannot be taken out within the SMSF. Using a life insurance payout for a buy/sell agreement may be an attractive and efficient proposition, but under ATO ID 2015/10 it does not meet the single purpose SMSF test.

There are strict restrictions on accessing the funds in your pre-retirement SMSF and paying to fund a buy/sell agreement (or put and put options) can lead to a breach.

  1. Buying a residential property from an SMSF member

An SMSF cannot acquire an asset from a related party of the SMSF, this includes residential property, even if the property is taken at market value.

An exception to this rule is property that is treated as business property that the SMSF acquires from a member at market value.

Breach of this rule can lead to serious consequences for SMSF administrators.

  1. Loan through SMSF

An SMSF cannot borrow money.

An exception to this rule is an SMSF that borrows through valid limited recourse borrowing arrangements (LRBA), provided the arrangements follow the guidance in ATO ID 2015/18 and PCG 2016/15.

The LRBA has many conditions and failure to comply with any of these conditions may result in penalties or other action being taken by the ATO.

  1. Independent income and expenses

SMSFs must earn income and incur expenses on an “independent” basis.

“Arm’s length” income (NALI) is taxed at a rate of 45%.

If the SMSF deals with another party on a non-arm’s length basis and the income received by the SMSF is over market value or expected income can be considered as NALI.

Alternatively, if the SMSF is dealing with another party based on “unusual market conditions” and the expenditure incurred by the super fund is below market value, or is expected to be, the expenditure will be considered “non-commercial”. independent expenditure” (NAL). To be considered a NALE, an expense does not have to be a deductible expense incurred in the course of earning or generating assessable income.

If the NALE is linked to the SMSF income, the income will be treated as NALI.

An example of how the NALI rules work is as follows:

The SMSF does not deal with a party on a market-to-market basis and buys a commercial property at below market value. The commercial property is subsequently leased to a third party.

There is a sufficient link between the NALE and the purchase of the commercial property and the rental income derived from the SMSF so that the rental income will be treated as NALI and taxed at the top marginal rate of tax.

There will also be sufficient nexus between the NALE and the capital gain in the case of sale of commercial property so that the capital gain will also be NALI and taxed at the highest marginal rate of tax.

Breach of any of the above could result in your SMSF being non-compliant, losing its concessional tax rate and having its earnings taxed at 45%.

If the breach is deemed to be serious, the ATO can disqualify SMSF trustees if they are no longer considered “fit and proper”.

The content of this article is intended to provide a general guide to the issue. Professional advice should be sought regarding your particular situation.

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