Introduction

Superannuation, or ‘super’ as it is more often known, is a cornerstone of most people’s personal financial management. Apart from their own home, for many people superannuation comprises their entire personal wealth. It is very important.

Super is a long term savings arrangement designed to assist individuals to accumulate wealth to enable them to fund (at least some of) their own retirement. Becoming self-sufficient reduces people’s reliance on government services such as the age pension.

Many countries use some form of superannuation. Australia’s current system of superannuation took form in 1983, when the then Hawke Labor government reached an ‘Accord’ with trade unions such that the unions agreed to forego direct pay increases in return for the introduction of compulsory super contributions for their members. Initially, employers were obliged to contribute an amount equal to 3% of their employees’ salary or wages into a super fund on that employees’ behalf. At a stroke, all affected workers started to save 3% of their annual income in a savings vehicle which could not be accessed until retirement. Compulsory saving for the future.

The system was expanded in 1992 to cover all Australian employees. This system became known as the ‘Superannuation Guarantee’ and it is still in place today. The introduction of compulsory super came as demographic analysts realised that the Australian population was ageing and this would place a substantial strain on social security benefits paid by the Government (especially the old age pension).

Originally, most superannuation funds were managed by professional money managers. Over time, a system through which people can manage their own superannuation has been developed. People manage their own superannuation through what is known as a self managed superannuation fund, or SMSF. As of December 2016, there were more than 585,000 self-managed superannuation funds with more than 1.1 million members. Together, these funds manage approximately one third of all superannuation assets in Australia.

This guide is all about SMSFs. We explain what an SMSF is, who in SMSF suits, how to use in SMSF and how to finish up an SMSF when it is no longer needed.

This guide is a starting point for self managed superannuation. If you have an SMSF, or if you are thinking of establishing one, we encourage you to get in touch with us. Running your own SMSF can be both personally and financially rewarding – but it needs to be done right and we can help you ensure that you make an intelligent and informed decision about whether and how to manage your own superannuation.

We hope you enjoy this guide!

Chapter 1: What is a SMSF?

A SMSF is a special type of trust. A trust is a legal arrangement in which the legal ownership of an asset is separate to the beneficial ownership. The legal owner of an asset is responsible for it. For example, the legal owner of a bank account is responsible for any money saved within that bank account. The beneficial owner of an asset is the person for whose benefit that asset is maintained. For example, the beneficial owner of a bank account is the person for whose benefit any money held within that account is intended to be used.

Most superannuation funds, both managed and self-managed, operate via a trust. Trustees are the legal owners of the trust assets. Fund members are the beneficial owners of those assets.

There are many different kinds of trust. Many businesses, for example, operate through some form of trust, often using a company as the trustee. Private investors might make use of an investment trust. A testamentary trust is a trust that is created when a person dies and wishes to have their assets managed on behalf of their beneficiaries (for example, if their beneficiaries are still children and can’t manage assets themselves).

A self managed super fund is a special type of trust. It is special because the trust assets are held and managed by a trustee for the purpose of providing retirement income and other benefits to members. This means the trust qualifies for special income tax concessions under the tax law.

A SMSF is a super fund with less than five members that is managed by its members. SMSFs are also known as ‘DIY funds.’ The Australian Taxation Office (“the ATO”) is the main SMSF regulator, and has the responsibility of overseeing SMSFs in Australia.

The members, or a company owned and controlled by the members, act as the trustees. The trustees control the SMSF’s investments and are generally responsible for the SMSF’s administration and its compliance with the law.

A SMSF is controlled by a trust deed. The trust deed sets out the rules the SMSF has to follow. It also sets out the obligations and responsibilities of the people connected to the SMSF, ie the members and the trustees. The rules for paying contributions on retirement or death, investing assets, holding meetings, appointing trustees, paying benefits to members and the other matters affecting the SMSF are also found in the trust deed.

The three essential parts of a trust are present in a SMSF. These are:

  1. a trustee;
  2. trust property; and
  3. beneficiaries, in this case called “members”.

The trust deed must have special rules if the SMSF is to be a complying super fund and be eligible for tax concessions. However, it is the trustee’s year-to-year conduct that ultimately determines the SMSF’s eligibility for tax concessions.

To be a SMSF the fund must be a super fund and must also satisfy a number of conditions set out in section 17A of the SIS Act. These conditions are:

  1. the fund must have no more than four members;
  2. if the trustees of the fund are individual persons, each of them must be a trustee;
  3. if the trustee of the fund is a company, each member must be a director of that company;
  4. the members are not in an employment relationship unless they are relatives;
  5. no trustee derives any personal benefit from providing services to the fund or for performing his/her/its duties as a trustee.

Chapter 2: Who’s who in an SMSF

Members

People who use an SMSF to manage their super are known as members of that fund.

A person is a member of a fund if the trustee of the fund holds benefits on trust for them. The role is analogous to a beneficiary of a family trust, and a unit holder of a unit trust. The member is entitled to receive benefits from the SMSF on the occurrence of certain specified events, such as reaching a certain age, or dying (in which case the benefits are paid to the member’s estate or dependants or a nominated person).

Most SMSFs only have two members. Often, these members are a couple, leading to the colloquial term ‘mum and dad’ funds. A minority will have members of another generation (i.e. children) as members too. It generally does not make sense for unrelated people to be members of the same SMSF. More commonly, two or more unrelated people will establish separate funds so as to keep their financial arrangements separate.

The most obvious distinction of a self managed superannuation fund, is that each member of the fund must also be a trustee of that fund. There are two ways to be a trustee: in one’s own name, or as a director of a company where that company is the trustee of the fund. But in order to be a self managed superannuation fund, a member must have a managerial responsibility for the fund assets.

No more than four members

An SMSF can have no more than four members. The number of members is limited to four so that the SMSF cannot become too big. This rationale is not perfect, as obviously it is possible for a one member fund to hold more member benefits than a four member fund. But it does make some sense. It also means that individual SMSFs do not become too big, and that the members stay in control.

Many of the consumer protection type rules in the law do not apply to SMSFs. The rule that members must be trustees means that members will automatically have access to financial information and other information about the fund, and so a further layer of protective regulation is not necessary. This simplifies the costs of running SMSFs and makes them more accessible and workable. Increasing the number of members beyond four members would run contrary to this policy, making SMSF less workable, more expensive and more difficult to run.

There is some sense in the rule being relaxed so there can be more than four members if they are all part of the same family. This “same surname” approach is discussed in the industry from time to time but there is nothing to suggest it will become law at present.

Single member funds

Under trust law, it is not possible for a person to be the trustee for himself or herself. This is because the separation of beneficial ownership and legal ownership of trust property is an essential aspect of a trust. If the same person holds both beneficial and legal ownership of a piece of property, then there is no trust.

This posed a problem for the legislature when the rules for self managed superannuation funds were being drafted: how can the ‘all members must be trustees’ rule be satisfied in the case of a single member fund? Two solutions were established:

  1. a sole director/shareholder company can act as trustee, with the member as the sole director and shareholders (since this creates the necessary separation of beneficial ownership and legal ownership); or
  2. another person can be a trustee – provided that other person is a relative.

A “relative” is defined widely and goes as far as second cousins, and includes relatives by marriage or adoption, de-facto spouses, and ex-spouses. “Spouse” includes a same sex partner.

Members who are also employees

A person cannot be a member of the same fund as his or her employer, unless they are related. This rule is intended to make sure that self-managed super funds do not become de-facto employer-sponsored funds, but without the extensive consumer protection type rules afforded to employees in these funds.

Auditor

An auditor is a finance professional who checks that self managed super fund is being run in accordance with all relevant rules. These rules include both the trust deed for the individual SMSF as well as the general superannuation law.

In order to comply with the law, and therefore gain access to the various tax concessions available to an SMSF, an SMSF must engage a registered auditor who is independent of the fund. The Australian Tax Office have provided the following simple video to explain the role of an SMSF auditor:

Administrator

In order for an auditor to be able to perform their role, various administrative tasks need to be completed for an SMSF. These tasks can be completed by a member, but more commonly the fund will engage some form of professional administration to do this for them in an efficient and compliant way. Engaging a professional administrator typically means that the administration is performed more effectively, and in particular that the annual audit can be completed in a more efficient and therefore less expensive way.

Chapter 3: Advantages of an SMSF

With more than 1 million Australians choosing self managed superannuation, there are clearly several advantages to this form of super. Let’s look at some of the main ones in turn.

Control

The main benefit of a SMSF over another super product is control over all aspects of the fund. Members have 100% control of where their money is invested at any time.

A key feature of a SMSF is the ability to make direct investments. Direct Australian shares are a particularly good option as they will provide tax effective dividend income to the SMSF.

Members are also able to invest in direct property, either using the available cash in their fund or through limited recourse borrowing arrangements, which we discussed below. For example, with a geared residential property that is rented out, the rental income would cover the outgoings and the interest, with a bit of help from the contributions. With a view of an investment timeframe of 20 years, the drive of this strategy is the expected capital gain. This would not then be realised until the SMSF is in pension mode (i.e. after age 60), and so the bulk of the return will be capital gains tax free.

Other investment options include international shares, managed funds, listed unit trusts and investment companies, artwork, and other “exotic” investments (although we must admit to taking a very conservative line when it comes to’s in which an SMSF should invest).

The control clients have over their SMSF means that they can also act quickly to change their investment strategy, if their appetite to risk changes due to a change in their personal circumstances.

Information

Related to this enhanced control, using an SMSF means you don’t have to wait for months after 30 June each year to find out how your investment is performing (or even what it is invested in). The information is always readily available. Most trustees can access information on virtually a daily basis. After all, they are the ones actually looking after the investments!

The rapid growth in internet trading is increasing the amount of information available on demand to SMSF trustees. Most e-traders provide free portfolio tracking software, which means clients get immediate reports on the state of their portfolios at any time. Cheap software packages, then make it even simpler for SMSF trustees to run their own investment portfolios with minimum effort and maximum satisfaction.

Synergy with other investment and business strategies

SMSFs can create synergies with the member’s other investment and business activities. The SMSF’s investment strategy should be prepared as part of an overall investment strategy reflecting the member’s attitudes and overall financial profile. The member’s will and estate planning should be considered as part of this strategy.

For example, it can make sense for an SMSF to minimise property investments if the member’s non-super assets are invested heavily in property. Overall, the investment portfolio is balanced, even if the SMSF invests solely in shares. Alternatively, a member with a large diversified personal shareholding in their own name may choose not to diversify within their self-managed superannuation fund in the hope that they can achieve above-average returns in that tax advantaged environment.

A managed fund, with thousands of members of all ages and from all walks of life and with vastly different financial profiles, will find it almost impossible to complement each of those members personal financial management as efficiently as an SMSF.

Another example is where it comes to death benefits paid after a member dies. In most cases eligible termination payments paid direct to a deceased member’s dependants are tax-free in the dependant’s hands. This applies to all super funds, not just SMSFs. But as SMSFs are usually controlled by the deceased member’s nearest relatives there is more tax planning potential and certainly more control.

Personal Satisfaction

Many, if not most, people who run SMSFs do so employee because they enjoy it. They like the control and they are genuinely interested in investing. They enjoy learning about investment opportunities.

SMSFs do not have to take up a great deal of time. Some people get by with just a few hours a year. They only buy quality blue chip shares or some other conservative investment, such as an index fund, and never sell. This strategy has worked well in recent years and has the added benefit of lower administration costs since there are fewer transactions to record and monitor. This strategy is common with younger people with smaller funds and/or larger work and family commitments.

Other people enjoy spending a few hours a week or in some cases even a few hours a day attending to their SMSF investments. They believe they can add to its performance by paying closer attention and investing. Older people who are retired from full time work are more inclined to do this. With the low cost of e-trading, and the huge amount of information available on the Internet, we are seeing a new class of investor who works his or her SMSF hard in the pursuit of extra profits.

In some cases, a member of a self-managed superannuation fund may choose to only hold investments they believe are ‘ethical.’ Trustees can structure the SMSFs’ investment strategy so that no unconscionable investments are held, or so that socially advanced investments are emphasised. Social responsibility is a big thing for many people, and if you’re interested you can read this very interesting article from the Guardian describing Australian doctor Bronwyn King and her response when she realised the managed superannuation into which her employer mandated contributions were being made owned shares in various tobacco companies:

Put simply, for many people spending a few hours on their investments beats playing bowls or crazy whist!

Life Insurance

Life insurance premiums paid through a SMSF can be tax deductible. In some cases this can halve the cost of the cover and is the cheapest way to arrange life insurance. Often the tax benefit connected to deductible premiums more than covers the cost of running the SMSF.

Any insurance benefits paid will be included in the SMSF’s assessable income. Whether there is a tax charge or not will depend on the fund’s tax profile: the worst case is a tax charge of 15%, and the best case is a tax charge of 0%, which will apply if the SMSF is paying an allocated pension at the time of the member’s death.

Managed superannuation funds can also provide life insurance benefits, but the member is bound to use whichever insurer the trustees of the managed fund choose. In recent times, the attitude of some insurers to the provision of risk insurance to superannuation members has come under much deserved criticism for rejecting claims unreasonably:

As a result, people who wish to use superannuation to access life insurance often choose a self managed superannuation fund so that they can exercise discretion as the trustee and select the insurer.

Chapter 4: Using a self managed superannuation fund: contributions

Money that is transferred into superannuation on behalf of a member is known as a ‘contribution.’ There are two types of contribution: ‘concessional’ and ‘non-concessional.’ Making a contribution into a self managed superannuation fund is generally quite simple. Most SMSF’s make use of some form of bank account (which may be a cash management account or similar) and a deposit into this account is all that is required for a contribution to have taken place. The fund then needs to retain a record of what the contribution was and to whom it related.

The remainder of this section has been reproduced from our previous e-book on superannuation generally.

Concessional contributions

Concessional contributions are ‘before tax’ contributions. This means that they are made using income that is yet to be taxed. They include employer contributions (also known as ‘super guarantee contributions’ or SGC), salary sacrifice contributions and any other contributions which a member has effectively claimed a tax deduction for.

The term ‘before-tax’ means that the member does not pay tax on the contributions before they are sent to the super fund. Once contributions arrive in a fund, they are generally taxed at 15%. The fund pays this tax, and the member’s balance within the fund is reduced accordingly. Contributions on behalf of high income earners who have an adjusted taxable income in excess of $250,000 per annum are taxed at a higher rate of 30%. This limit fell from $300,000 to $250,000 on 1 July 2017.

Tax on concessional contributions

As stated above, concessional contributions are taxed at 15% in the hands of the superannuation fund. The fund pays this tax directly to the Australian Tax Office (‘ATO’).

To illustrate how this all works, think of an employee earning $70,000 a year. Under the superannuation guarantee rules, her employer must make a contribution worth 9.5% of her salary into super. 9.5% of $70,000 is $6,650. The employer pays this full amount directly into the employee’s super fund.

Superannuation is treated differently to the $70,000 of salary paid to the employee. For the employee’s salary, the employer must deduct the employee’s tax payments from the gross salary and send it to the ATO. The employer only gives the employee the after-tax amount. So, for salary, the employer pays the money to 2 places: the employee and the ATO.

The standard tax paid on $70,000 per year is approximately $14,300 before personal deductions. This means that the employee receives $55,700 and the ATO receives $14,300.

For superannuation contributions, the employer does not withhold tax. Instead, the employer pays the full amount of the contribution into the superannuation fund and the superannuation fund pays tax to the government. The employer only pays money to one place: the superannuation fund.

In the case of an employee on a salary of $70,000, the employer must contribute $6650 directly to the fund. Having received the money, the fund must then pay tax of 15% ($998) directly to the ATO. This leaves $5652 in the employee’s superannuation account.

Concessional contributions are taxed at a flat rate of 15%. This is less than the amount of tax that the employee on $70,000 a year would have paid had she received the extra $6,650 as salary. On a salary of $70,000, an employee’s personal marginal tax rate is 32%. So, had an employee received $6650 a salary, she would have paid $2,128 in tax. So, she would only have received $4,522 after tax.

Of the $6,650, the super fund is left with $5,652 after tax. The employee would only have been left with $4,522 after tax had she received the money as taxable income. So, in return for the money being locked up within superannuation until later in her life, the employee gets an additional $1,130.

The employer claims a tax deduction for both the $70,000 of salary paid and the $6,650 of super contributions paid.

Once an Australian tax payer has taxable income above $20,000, their marginal income tax rate is at least 19%. This means that the tax rate applicable within superannuation is less than a person’s marginal income tax rate in most cases. This in turn means that most people end up with a larger amount in super than they would have if they received the amount as taxable income.

The lower tax rate within super is designed to do two things. Firstly, it encourages people to use superannuation – they end up with more money if they do so. Secondly, as we will discuss below, investment earnings within super are also taxed at a lower rate. This means that people start with more in super and then get to keep more of the investment earnings that their super creates.

Salary Sacrifice

The superannuation guarantee rules oblige most employers to contribute an amount equal to 9.5% of an employee’s wages or salary into superannuation. Usually, an employee can choose to direct that some more of their salary or wages be contributed into super as an extra contribution on their behalf. This is known as a ‘salary sacrifice.’

The logic of salary sacrifice is simple. If a person has taxable income greater than $20,000, their marginal income tax rate will be at least 19%. That means that for every dollar of salary or wages that they earn, they receive no more than $.81. If, instead of receiving that dollar as wages or salary, the employee receives the dollar into their superannuation fund, the fund and the pays tax of 15%. This means that the employee is left with $.85 within the superannuation fund.

Personal marginal income tax rates increase as income increases. For example, once a person’s taxable income has reached $37,000, their marginal income tax rate becomes 32%. This means they only get to keep $.68 for each dollar that they earn above $37,000. Once taxable income goes over $87,000, the marginal tax rate increases to 37%, meaning people only get to keep $.63 of every dollar they earn, etc. The full list of rates for the 2017-2018 tax year are as follows:

Income Marginal tax rate
$0-$18,200 0%
$18,201- $37,000 19%
$37,001-$87,000 32.5%
$87,001-$180,000 37%
$180,001 and above 45%

As can be seen, the financial benefit of salary sacrifice increases as taxable income increases.

As discussed below, the total concessional contributions that a person can have in a given year is capped at $25,000. Therefore, the amount that can be salary sacrificed is limited to $25,000 less any amount being paid into super as a superannuation guarantee. A person who receives a superannuation guarantee contribution of $10,000, for example, can only sacrifice an additional $15,000 of income into superannuation.

Personal Contributions

As of 1 July 2017, members of super funds can claim a tax deduction for contributions that they pay directly into a superannuation fund, provided they flag their intention to do so with the recipient fund. Contributions made by the member himself or herself are known as ‘personal contributions.’ Personal contributions can be made up to the age of 74.

As discussed in the next section, a person can only make personal contributions such that their total concessional contributions do not exceed $25,000 in a given year.

The Concessional Contributions Cap

The tax advantage for concessional contributions is a ‘limited offer.’ As of 1 July 2017, concessional contributions are subject to an annual cap of $25,000. This is a reduction from the annual cap that applied prior to that date ($35,000 per year for members aged 50 or older, and $30,000 per year for members aged under 50).

Contributions in excess of these caps will be taxed at the member’s marginal tax rate and included in the member’s non-concessional cap (see below), unless the member elects to withdraw the excess funds. The member can elect to withdraw up to 85% of the excess funds.

People with superannuation balances below $500,000 will effectively be able to average this annual contribution out over a five year period. This means that if a member makes a contribution in one year of, say, $10,000, then he or she can make a concessional contribution in the second year of $40,000, such that the average across the two years is $25,000 per year.

Basically, the cap becomes $125,000 over five years, but the average level of contribution cannot exceed $25,000 during the five year period. (That is, you can ‘catch up’ in later years but you cannot ‘pay more in advance’ in the earlier years).

Contribution splitting

You may have heard the term ‘contribution splitting.’ A member is permitted to split certain contributions between themselves and their spouse. They do this by transferring the contributions they have made from their super account to their spouse’s account. This rule recognises that (generally) female spouses have restricted work patterns compared to male spouses. Women often take time off work to have children and raise their family, which prevents them from accumulating significant funds in their super account. This concession is designed to recognise and address this imbalance.

The rules allow for up to 85% of a concessional contribution (that is, the amount that is left after tax) made in the previous financial year to be transferred to the spouse’s account. The funds that are transferred to the spouse are treated as a ‘rollover’ and not as a contribution, and so they do not get taxed again in the hands of the recipient.

As the funds were initially a concessional contribution, the funds will be an entirely taxable component and form a part of the recipient spouse’s taxed element in their fund.

While splitting was first introduced to allow for a non or low-earning spouse to effectively be superannuated, it is often used for more pragmatic reasons. There is no rule that benefits need to flow in a particular way (for example, from the member with a higher balance to a member with a lower balance). So, one common strategy is for a younger partner to split his or her contributions to an older spouse. The benefit here is that the money will generally become available sooner by doing this.

An alternative is to split contributions in such a way as to maximise Centrelink entitlements. This might mean deliberately minimising the super balance of one or the other spouse – usually the older spouse who is likely to seek Centrelink benefits sooner.

Non-concessional contributions

Non-concessional contributions are ‘after-tax’ contributions which a member can elect to pay into their superannuation fund. These contributions are not taxed going into the super fund, and they form part of what is known as the ‘tax free element’ within the fund. Members do not receive a tax deduction for making these contributions.

The idea is that the money used to make the contribution has either already been taxed or would not be subject to tax outside of super, and that it would therefore be unfair to impose a tax within the super fund.

For example, a person may receive a lump sum as an inheritance. That lump sum is ‘after tax’ as any tax was paid by the estate. They wish to invest that money in the most tax effective manner, and so they contribute the lump sum into their superannuation fund as a non-concessional contribution. Once the monies are within superannuation, earnings are taxed at no more than 15% (falling to 10% on capital gains for assets held for longer than 12 months).

The existence of non-concessional contributions encourages people to put money into super. This is seen as good social policy, as the greater a person’s personal wealth, the less likely they are to rely on Social Security payments in their old age.

The amount that people can contribute as a non-concessional contribution is capped. Post 1 July 2017, the annual cap is $100,000 per year. Because concessional contributions are often made using lump sums, the rules actually allow people to bring forward the next two years, such that $300,000 can be contributed at any time in a given three-year period.

Non-concessional contributions can be made up to the age of 75. After the age of 65, a person must meet the work test. A person aged 65-74 cannot access the bring forward facility.

Non-concessional contributions cannot be made where total superannuation benefits exceed $1.6 million. This means that people with balances close to $1.6 million need to take care that making a non-concessional contribution will not cause their benefits to exceed $1.6 million.

Contributions that exceed the allowable cap will be taxed at the current highest marginal tax rate of 49%, and earnings on the excess contributions will be taxed at the member’s marginal tax rate. The trustee of the fund is required to return the excess contributions to the member.

In the 2017 budget, Treasurer Scott Morrison announced a change to the non-concessional contribution rules to take effect from 1 July 2018. This change will allow people aged over 65 who sell their family home to make an additional non-concessional contribution worth up to $300,000 per person (meaning $600,000 per couple if there is a couple). This measure is aimed at encouraging people to downsize the family home. It is hoped that this will improve supply conditions in the housing market, which should reduce upward pressure on house prices.

This measure effectively allows older Australians to swap part of the tax-free investment that their house represents for a tax-free investment within their superannuation. The measure will only benefit people in very limited circumstances, so we encourage you to contact us if you are contemplating downsizing the family home.

Chapter 5: Investment in an SMSF

One of the main advantages of a self managed superannuation fund is that the trustees are in control of the investments made by that fund.

The rules governing self managed superannuation stipulate that a fund must have an investment strategy. You can learn more about these rules by watching this short video from the Australian tax office:

The Member’s Investment Profile

When developing an investment strategy, the first thing to consider is the members’ investment profile. Put simply, an investment profile is a way of establishing the level of risk that a member is prepared to undertake in the pursuit of investment returns. As a general proposition, higher returns are related with an increased risk of a negative return – which is a fancy way of saying ‘losing money.’

Investment profiles lie on a spectrum. At one end of the spectrum is what is known as a ‘conservative’ investment profile. As this name suggests, a conservative strategy aims to minimise the risk of losing money. Conservative investors tend to prefer investments such as cash and cash equivalents over riskier assets such as property or equities. At the other end of the spectrum is what is known as a ‘high growth’ investment profile. Under a high growth investment strategy, investments such as equities or property, with their potential for greater returns, are typically preferred.

Put very generally, the preferred investment profile is most influenced by how soon an investor is going to need the money under investment. If money is needed in the short-term, a conservative investment profile is typically applied. If money is not needed until the very long term, then a high growth strategy generally makes more sense.

It is worth remembering that superannuation assets are different to other forms of assets that the person may have. The main difference is that assets held within superannuation are preserved until the member reaches preservation age. In addition, assets held within superannuation are intended to finance a retirement, which may last 20 years or more.

As a result, people frequently underestimate how long-term – and therefore how growth oriented – the investment strategy for their superannuation benefits should be. Generally speaking, people can tend to convert their superannuation investments to a conservative profile too soon.

For example, consider a newly married couple, both aged 30, who are saving to purchase a family home. The couple have $50,000 in personal savings and $20,000 in superannuation benefits. The $50,000 of personal savings will be used as a deposit for a home. Therefore, this money should only be invested in very conservative investments such as a bank account, where the risk of losing money in the short-term is low.

But superannuation is different. This couple cannot access their superannuation for at least 25 years. Therefore, a conservative strategy makes no sense for the money held in superannuation. That money would more typically be invested in some form of high growth option.

In this way, the same person can have two or more investment profiles for different elements of their financial management.

Complementarity

One of the chief advantages of a self managed superannuation fund is that the investment strategy for the self managed super fund can tie in very closely to the members’ non-super investment strategies. This cannot always be the case with managed superannuation, where the member typically has very little control over the investment assets of the fund.

For example, consider a couple who are running their own business. They decide to use their superannuation fund to purchase premises which they will then lease to their business. In so doing, they reduce the risk to their business of being asked to vacate their business premises should an external landlord decide not to renew a contract. They create a situation where the landlord and the tenant have a common interest. When people own a business, but business is typically the centrepiece of their investment strategy. The ability to establish a self managed superannuation fund which then invests in a way that compliments that business can add to the effectiveness of the overall investment strategy.

Keep it simple

Many successful trustees of self-managed superannuation funds choose to keep the investment strategy of their fund very simple. For example, a very simple SMSF might make use of just two investments: cash management account into which contributions are made; and a single managed fund that in turn invest into equities (for example, an exchange traded fund tracking a market index). The cash management account is a conservative investment option. The index tracking managed fund is a growth focused investment option.

The proportion of overall fund assets held in each of these to investment options would then vary according to the investment profile of the members of the fund. For example, if the fund has two members, and they are both aged in their 70s, the fund may choose to hold 60% of its total benefits in cash management account and only 40% in the growth oriented ETF. Conversely, if a fund has two members aged in their 30s, the fund may choose to hold a bare minimum of its total benefits in cash management account, with almost everything invested in the growth oriented ETF.

As a general proposition, administration of an SMSF is simplest where the investments made by the fund are simple. Administration becomes more complex the more investments that the fund makes. This means that a simple investment strategy can have a flow on effect of minimising administration and auditing expenses of the fund.

Direct Property

Direct property can be either commercial or residential. For clients who wish to invest their superannuation benefits in direct property, a self managed superannuation fund is basically the only way to do so. It is unusual for a managed superannuation fund to invest in direct property.

Clients wishing to make an investment into direct property do need to take care. Certain types of property, such as residential property, cannot be used by any person related to a member of a self-managed super fund that owns the property. The rules for commercial property are less stringent, but nevertheless they do still apply.

We recommend getting professional advice prior to the purchase of any form of property within a self-managed superannuation fund.

Borrowing

Under certain conditions, it is possible for a self-managed superannuation fund to borrow to purchase investment assets. This ability is discussed in the next chapter.

Chapter 6: Limited recourse borrowing

A limited recourse borrowing arrangement allows the trustee of the SMSF to take out a loan from a third party lender to purchase a single acquirable asset (or a collection of identical assets) to be held in a special purpose trust. The limited recourse aspect of the loan means that the lender’s rights are limited to the asset held in the special purpose trust. The lender will have no recourse against any of the other assets held within the SMSF.

Background

The law regarding SMSF borrowings changed on 7 July 2010. Arrangements entered into before this date are controlled by the former sub-section 67(4A) of the Superannuation Industry (Supervision) Act 1993, and arrangements entered into after this date are controlled by the new sections 67A and 67B of this Act. Borrowings may be refinanced, and a refinancing may, depending on its detail, create a new borrowing that brings the arrangement within the new rules. Instalment trust arrangements are now known as “limited recourse borrowing arrangements”.

SMSFs have always had a limited ability to borrow. However, the power to borrow was so limited that few people did it. That changed in July 2010, when the Superannuation Industry (Supervision) Amendment Bill 2010 became law0.

The old rules (ie section 67(4A)) apply to borrowings entered into before 7 July 2010. The new rules (ie section 67A and 67B) apply to borrowings entered into after 7 July 2010, to restrict the form of the borrowings as follows:

  1. single acquirable asset – only one asset, or set of identical assets (example a parcel of shares in a listed company, listed trust, or other assets that have economically identical qualities) is permitted in each trust arrangement. This asset must be dealt with as a single asset (for example, a parcel of shares cannot be sold gradually over time. It must all be bought and/or sold are once). This rule is very restrictive for shares and similar securities but has no real effect for real estate.
  2. capital improvements – borrowings cannot improve the asset, but can be used to maintain or repair the asset to maintain its functional value. This is particularly relevant to real estate. For example, an SMSF cannot borrow to buy an old run down building and then borrow again to knock it down and build a new one. But a SMSF can borrow to repair or maintain a property to maintain its functional value;
  3. lender’s recourse – this must be limited to the particular asset. This means that a lender can only take security over the assets being financed;

Borrowing to buy shares

The new rules are particularly restrictive for shares. They do not allow a parcel of shares in different companies to be held under the one instalment arrangement, and do not allow a progressive sell down of shares. For this reason, it is quite rare for self managed superannuation fund to borrow to buy shares.

Residential property

Borrowing to purchase residential property is much more common. Consider a common example: a forty-five year old couple have, say, $200,000 in super. They are concerned about their long term retirement prospects and, although they are in the 37% tax bracket and have statistically high incomes, they are cash poor because of the high costs of feeding, housing, educating and “holidaying” their family.

The couple decides to establish a SMSF, transfer the existing $200,000 of benefits in, pay future contributions in, and then borrow say $400,000 to complete the purchase of a $600,000 property. The property is then rented out, with the rent covering the outgoings and the interest, with a bit of help from their contributions.

The expected capital gains drive this investment, and the key is to not realise the capital gains until the SMSF converts to pension mode, once the couple have each turned 60. Doing this means that the bulk of the return is capital gains tax free.

Business premises

Gearing an SMSF can also be a tax effective way to own business premises. The premises are bought using a geared SMSF arrangement and then leased back on an arm’s length basis to the business.

However, here the loss of the active asset exemption for business premises held by a SMSF has to be considered, which makes the arrangement less attractive from a tax point of view than may have been first thought: SMSFs are not eligible for this exemption.

Getting advice

Borrowing within an SMSF is one area where you should really not go it alone. Professional advice is imperative, as the consequences of making an administrative error can be substantial. Indeed, if not done properly, any advantage of a geared investment may be completely lost.

Chapter 7: Getting money out of superannuation

There are two main ways in which a person can withdraw money from superannuation. The first is as a lump sum and the second is in the form of an income stream (typically known as a pension). We introduced each of these forms in our previous e-book. These introductions are reproduced below.

When deciding how best to withdraw money, you need to consider how you will use the withdrawn money. If the money is going to be saved outside of superannuation, with smaller amounts used to finance lifestyle on a month by month basis, then it generally makes sense to leave the bulk of the money within superannuation and to withdraw what is needed as a pension over time.

Conversely, if the money is going to be immediately spent, then a lump sum a make more sense.

Income streams or pensions

When using an income stream, you keep the majority of your benefits within superannuation and withdraw a relatively small amount each year. The yearly withdrawal can happen all at once, or in smaller amounts during the year (for example, monthly).

The government encourages people to use this method as this method preserves more superannuation benefits for future use, which reduces reliance on social security payments later in life. The main encouragement for people using an income stream is that no tax is paid on investment returns for assets being used to finance a pension. This includes both income returns (such as interest or dividends) and capital gains.

This means that the superannuation fund becomes a tax-free investment vehicle once an income stream has been commenced. Zero tax is hard to beat!

From 1 July 2017, there are a couple of significant modifications to the income stream arrangements. The first is to restrict the zero tax arrangement to income streams paid after a full retirement or after the member turns 60. Prior to 1 July 2017, assets used to finance what is known as a ‘transition to retirement’ income stream (see below) also enjoyed tax-free status on their earnings and capital gains.

Secondly, the tax-free treatment for earnings generated on assets used to finance an income stream is now limited to an amount of assets worth no more than $1.6 million. For the vast majority of people, this upper limit is well in advance of their total superannuation, and so the limit does not really have an impact. For those people fortunate enough to have more than $1.6 million in superannuation benefits, earnings on assets in advance of $1.6 million remain taxable at the standard superannuation tax rates of 15% for income and 10% for capital gains on assets held for more than 12 months.

The tax-free status for superannuation funds that are paying an income stream generally means that anybody who has retired and has met a condition of release should commence payment of a pension. Under the rules of a pension, the money actually has to be withdrawn from superannuation, but in many cases it is possible for a member to re-contribute excess money back into their superannuation fund in the form of a non-concessional contribution. People can make use of such a ‘re-contribution strategy’ up to and including the age of 74.

Transition to retirement income streams

A transition to retirement income stream allows a person aged 55 or over to start drawing income from their superannuation benefits while still working. The idea behind this type of pension is to discourage people from leaving the workforce altogether. As an incentive to stay in work, when transition to retirement pensions were first introduced, it was decided that earnings on assets used to finance the pension would not be taxed. This included capital gains, such that superannuation fund for people using a transition to retirement pension basically became a tax-free enterprise.

This was a generous incentive and in the 2016 budget, it was decided that this was too generous an incentive! As of 1 July 2017, earnings and capital gains on assets used to finance a transition to retirement pension are no longer tax-free. This will reduce the benefit of such a pension for a lot of people. Basically, anyone who does not need the pension to finance their daily lifestyle probably does not need to bother commencing a transition to retirement income stream. However, for people who are working but really do need to access their superannuation to finance their lifestyle (for example, people working on a very part-time basis) a transition to retirement pension may still make sense.

Lump sums

Lump-sum withdrawals from superannuation are often used to finance some form of one-off payment. This can include things like paying out home loans, purchasing a new home, paying for holidays, buying a new car, helping adult children out financially, et cetera.

If a person elects to withdraw a lump sum from their superannuation fund, they do not have to withdraw their entire balance. Whether a person should withdraw more than they need to finance a particular purchase will depend on how they will invest or otherwise use that money in excess of their needs.

Generally, it makes sense to leave as much wealth within low taxed environment of superannuation. However, individual tax circumstances can vary, and so it is always worth taking advice when considering how to treat money held within superannuation for which there is no immediate need.

Self managed superannuation funds and withdrawing money

As outlined above, once a member commences a pension from their superannuation fund, assets used to finance that pension are no longer taxed. This includes capital gains, even if the asset was purchased prior to the commencement of the pension. This can create a powerful investment strategy for self-managed superannuation funds.

Put simply, an SMSF can invest in growth assets that predominantly target capital gains, with a view to holding that asset until after all members of the fund commenced pensions. In so doing, the fund negates any capital gains tax being paid on that asset.

Consider the example of a husband and wife who are running a business together. They establish a self-managed superannuation fund and the fund borrows money the purchase their business premises. The business then leases those premises from the fund, paying a market rent to do so.

At the age of 55, the couple decide to sell the business. However, they do not sell the business premises, instead entering into a new 10 year lease with the new owners of the business. At the age of 65, both members of the couple have established a pension and at this point they sell the business premises for a substantial capital gain, on which they do not need to pay tax.

This is an example of how the investment strategy of a self-managed superannuation fund was both consistent with, but also diversified from, the investment strategy of the members in their own right.

Chapter 7: Regulation of an SMSF

The Australian Taxation Office (“ATO”) is responsible for enforcing the SIS Act and other super laws as they apply to SMSFs.

If the SMSF’s deed is drafted properly and the trustees comply with the law, the SMSF will be eligible for tax concessions. These concessions can include a deduction for concessional contributions and concessional tax on the SMSF’s income. These tax concessions drive the SMSF’s enhanced investment performance. It is the tax concessions that make super such an attractive investment medium and allows it to outperform alternative investments.

Although theoretically onerous, trustees are normally able to satisfy these rules without any difficulty. The ATO is helpful, not obstructive and it is on the record as saying it will follow the standards set by its predecessor, the Australian Prudential Regulation Authority (‘APRA’). It is important not to overstate the risk of breaching the law. In most cases SMSFs run smoothly and difficulties are not encountered. Except for cases of extreme culpability, a SMSF that has inadvertently breached the super law will generally be deemed to have complied with the law by the Regulator. Where there is a minor breach of these rules, the Regulator generally uses its discretion to deem the SMSF to have complied with the rules.

What happens if a SMSF breaches the law?

A SMSF must be a complying super fund to get the benefit of the tax concessions extended to super funds. If a SMSF seriously breaches the super law it may become a non-complying fund and may lose the benefit of these tax concessions. It may also become liable for certain penalties, as may its advisers, particularly its auditors.

It is virtually unheard of for a SMSF to deliberately become non-complying. It just does not happen except in the most extreme cases, and this is a place few people choose to go to and one we definitely recommend you stay away from. Examples might include things like buying holiday homes in a SMSF – and then using them.

More common errors tend to be inadvertent. For example, a payment is misdirected or some other form of clerical error is made. The ATO is, sensibly, mostly forgiving when inadvertent errors are made leading to non-compliance. It rarely plays a hard hand provided the error is corrected and does not reoccur. The best option for a trustee where an error has been made is to fully disclose the error to the ATO (see below for further comment here).

SMSF compliance

The ATO does not issue annual notices that SMSFs are complying funds. Rather it issues an initial notice when the SMSF is first formed. Thereafter it only issues a notice if requested to do so by the SMSF, provided the ATO has not issued a notice under section 40 that the SMSF is no longer a complying fund and it is a non-complying fund. Therefore, once a SMSF is formed and has obtained an initial notice that it is a complying fund it continues to be a complying fund unless it receives a notice from the ATO saying it is a non-complying fund.

This means SMSF compliance is a ‘self-assessment’ system. The SMSF’s auditor plays a critical role. The auditor must certify that the SMSF has complied with the super law and this certificate is included in the annual return lodged by the SMSF with the ATO. If this certificate is not provided the ATO will issue a notice under section 40 that the SMSF is not a complying super fund.

The audit can be broken into two parts. The first part is a financial audit and this relates to the correctness of the financial statements and related documents. The second part is a compliance audit and this relates to the SMSF’s compliance with the SIS Act, and particularly whether the fund has not breached the various laws applying to SMSFs, for example, has not acquired an inappropriate investment, has not paid out member benefits in circumstances that breach the SIS Act.

Must the auditor report breaches of the super law?

This is dealt with in section 129 of the SIS Act.

If an auditor believes that the SIS Act has been breached the auditor must inform the trustee in writing of the breach. The auditor does not have to do this if the auditor honestly believes the trustee is already aware of the breach, but a wise auditor will do so anyway.

The auditor must then report the breach to the Regulator if:

  1. the trustee does not comply with the auditor’s request for a report regarding the proposed or actual action to be taken in respect of the breach; or
  2. the auditor is not satisfied with that action.

What happens if a SMSF does breach the super law?

From time to time SMSFs will breach the super law. Usually these breaches are not deliberate and in effect excused by the ATO, provided they are disclosed and are rectified as soon as possible. We have not seen the ATO not use its discretion favourably.

In practice, it is important for the SMSF to be able to show that the breach was inadvertent, not deliberate, and was rectified as soon as practicable once the SMSF became aware of the breach. For example, way  back in the year ended 30 June 2000 a client SMSF with more than $1,000,000 lent the members’ daughter $20,000 on commercial terms to help buy a car. The SMSF believed this investment was valid, because the loan was less than 5% of the SMSF’s assets and therefore did not breach the sole purpose test. The SMSF did not realise that the investment would breach the rule against loans and other financial assistance to members. Immediately on being informed of the breach the SMSF arranged for the loan to be repaid. The auditors did not certify that the SMSF had complied with the law and specifically brought the breach to the ATO’s attention.

The ATO exercised its discretion in favour of the SMSF. It was satisfied that the breach was not deliberate and that the SMSF had done all it could to rectify the breach once it was discovered.

We expect that the situation would be different if the ATO had discovered the breach or if rectification had not been made.

Consequences of a SMSF becoming non-complying

The ATO have released a short video explaining the process they apply when a breach occurs.

If a SMSF ceases to be a complying fund it loses the tax concessions extended to complying funds and become liable to a tax charge equal to the highest marginal tax rate of the value of its assets, less un-deducted contributions. If a SMSF with $1,000,000 of assets becomes a non-complying fund it will face a tax charge of $490,000 (49%).

The logic behind the tax charge being the value of the SMSF’s assets less un-deducted contributions is that this effectively reverses the tax concessions previously applied to the contributions received by the SMSF. In most cases it will go further than this, since the contributions are taxed at 15% and are possibly subject to the 15% super surcharge. There is no adjustment for this, plus the underlying assets have probably increased in value, and this increase is subject to tax at 49% even though it may not have been realized. This makes the penalties very onerous indeed.

This is a serious penalty, and although it is rare, it explains our conservative stance on so many issues: it’s just not worth taking risks with SMSFs and their complying fund status. When it comes to SMSFs, choose any flavour as long as it is vanilla.

Common problem areas

A SMSF may breach the super law in any number of ways. In a paper on SMSFs delivered to the Taxation Institute of Australia, Chris Kestidis of Hall and Wilcox, Lawyers, identified the following problem areas:

  1. special income, a situation where the SMSF derives income from related parties, such as a company or a unit trust, on a non-arm’s length basis;
  2. in-house asset rules, particularly those for investments in geared unit trusts; and
  3. sole purpose test, particularly where assets have a second purpose of being available for use by members and family and friends.

The ATO also publishes the top compliance mistakes made by SMSF trustees every year. The report from 2014 highlights the top 10 contraventions:

Types of contraventions reported to the ATO 
Contravention types Number (%) Value (%)
Loan to member/financial assistance 21.5% 15.0%
In-house assets 19.0% 28.8%
Administrative-type contraventions 10.8% 1.6%
Separation of assets 12.7% 25.4%
Operating standard-type contraventions 8.0% 6.1%
Borrowings 7.8% 7.4%
Sole purpose 8.0% 4.9%
Investment at arms length 7.7% 7.5%
Other 3.1% 1.0%
Acquisition of assets from related parties 1.4% 2.4%
Total 100% 100%

Chapter 9: Starting and Ending an SMSF

Setting up a SMSF

Who can set up a SMSF?

There is no restriction on who can establish SMSFs. They are set up by people of all ages from all walks of life. Normally people with higher incomes or who have significant wealth set up SMSFs. Older people predominate, since they are typically able to pay larger contributions, have larger amounts to rollover into an SMSF – and they are more aware of their ultimate retirement. Younger people using SMSFs to set themselves up for later life are becoming increasingly common.

How much do you need to set up a SMSF?

There is no minimum amount required to set up an SMSF. However, a common sense approach is required. When a client has a substantial initial balance, say $200,000, the SMSF starts to become a more attractive and cost effective option, mainly due to the fact that the administration fee for an SMSF tends to be stable regardless of the number of assets. Administrative fees are typically function of the complexity and range of investments within the fund, rather than their absolute size. For example, there is no additional cost in administrating $100,000 worth of shares in BHP over administrating $10,000 worth of shares in BHP.

That is not to say that an SMSF cannot be appropriate for a person with less and $200,000 to invest. There can be good reasons for setting up an SMSF where the costs are relatively high in the first few years until the SMSF grows and its investment strategy settles down, such as:

  • The client’s desire for control over their investments;
  • Intention to have larger future contributions;
  • Intention to have a simple low cost investment strategy;
  • High level of awareness and experience of investments markets and investment risk; and
  • High level of awareness and sophistication regarding potential

Ending an SMSF

SMSFs are not forever. There are various reasons that an SMSF needs to come to an end, and then there are various ways that the end can be managed.

The ATO have released a short, easy-to-understand video on winding up an SMSF:

Reasons to finish up an SMSF

In an article for the excellent online publication, Cuffelinks, commentator Julie Steed nominated the ‘seven D’s’ that may cause an SMSF to be finished up with. They are:

  1. Death;
  2. Disability;
  3. Dementia;
  4. Disinterest;
  5. Divorce;
  6. Departure; and
  7. Disqualification.

In some ways these are self-explanatory, but some deserve a little more comment.

Death

The death of a member typically requires the payment of a death benefit to an eligible death benefit beneficiary. Depending on the balance of the member who died, this might reduce the benefits that remain within the SMSF below the point at which the SMSF remains efficient.

Unless an SMSF has a corporate trustee (that is, a company is the trustee for the fund), then it must have at least two members. In cases where there is not a corporate trustee and a member dies, there needs to be at least two surviving trustees to continue managing the fund. A new member may join the fund following the death of the previous member, keeping the number of members above one. Alternatively, the sole surviving member may establish a company and transfer legal ownership of the SMSF’s assets to this new corporate trustee. However, if there is no such person available, then the sole surviving member will need to wind up the SMSF and transfer their benefits to an alternative type of fund.

The ATO have created a simple video explaining what happens when a member of an SMSF dies:

Disability and Dementia

A member of a fund who becomes disabled might trigger the need for the fund to pay a disability benefit to the member. Once again, this might reduce the benefits that remain within the SMSF below the point at which the SMSF remains efficient.

Alternatively, the disability or dementia may mean that the member no longer has the mental capacity to manage their own super.

Trustees of a SMSF own the assets of the fund and must therefore be competent to manage those assets.

The following video discusses some of the duties that trustees must be able to perform.

Disinterest

If trustees lose interest in managing their own super, then they will need to wind up the fund and transfer their benefits to a fund manager who can manage the fund on their behalf.

Divorce

Sometimes, SMSFs are known by their colloquial name: mum and dad funds. As this name suggests, many SMSFs are operated jointly by a husband and wife, often with one or the other partner taking more managerial interest in the fund.

While there is no requirement that a SMSF must be wound up in the event of a divorce between two of its members, it would be a rare situation where a SMSF could continue to be operated dutifully by a couple who have separated. Trustees of a SMSF owe a fiduciary duty to the members of the fund. This means that they must put the interests of the members before even their own. In the case of a divorce, this is usually a very difficult standard to reach and maintain, and so it is much more usual that a divorcing couple would also wind up the self-managed super fund.

There is nothing to stop each partner then commencing their own SMSF, although they would need to use a company as the trustee unless they could each find at least one other co-trustee. It is also possible for one person to leave an SMSF, rolling their benefits over to another fund, while the other trustees remain. This does entail quite a lot of administration on the part of the SMSF, however, as the departing trustee’s status as the legal owner of all of the fund’s assets would need to be altered.

A separation of trustees can lead to complex tax calculations and is otherwise a difficult area. We encourage you to seek specialist legal assistance if you are in this situation.

Departure

A SMSF must be a ‘resident regulated superannuation fund’ at all times if it is to maintain it’s status as a compliant super fund. There is a three-step test for residence.

  • Step 1: was the fund established in Australia or does the fund have assets in Australia? The fund’s establishment is a historical fact, and so this step is met if the fund was initially established in Australia, even if this was many years ago. If it was not, then there must be at least one asset in Australia each year.
  • Step 2: was the central management and control of the fund ordinarily in Australia? The concept of ‘ordinarily’ is critical here. The concept is actually subjective and depends on the intent of any person leaving Australia. A person who leaves Australia with no fixed idea about when they will return is unlikely to meet this test. A person who is out of Australia for an extended period, but who continues to regard themselves as a resident and whose intention is for the absence to be temporary, may be able to argue that their fund is ordinarily managed from Australia.
  • Step 3: does at least 50% of the balance of the active members of the fund relate to active resident members? Active members are those on whose behalf the fund is receiving contributions. If the fund does not have active members, this step does not apply. If it has both active and inactive members, then it is only the balances of the active members that are included in the calculation.

If one or more trustees depart Australia and the effect is that one or more of these tests cannot be met, the fund will be unable to retain its status as a complying fund and will need to be wound up. Losing this status can have substantial tax implications, so retaining status as residential is critical.

Disqualification

A disqualified person must not continue as a trustee of a super fund. One of the main ‘disqualifiers’ for a SMSF trustee is bankruptcy. If a member who is a trustee in their own name becomes bankrupt, they are given six months to arrange things such that they are no longer a trustee. If a member is a trustee via being a director of a trustee company, then they must also discontinue as a bankrupt person cannot be a company director.

Remember, in an SMSF all members must be trustees, so that means that the member’s benefits must be removed from the SMSF in either of the above events. This may require the SMSF be wound up.

Effectively, this means that bankruptcy will typically necessitate the winding up of a SMSF.

Options for winding up the SMSF

There are three options available when a fund is wound up. These are:

  • Pay out the benefits; or
  • Convert the fund to a small APRA fund; or
  • Roll the benefits over to some other form of fund.

In order for the fund to pay out the benefits, the members must all have met a condition of release allowing such payment to be made. The SMSF needs to retain sufficient assets to pay the expenses of winding down.

If one or more members are not in pension mode, then the sale of assets to facilitate paying out the benefits may trigger a tax event. This will depend on whether the asset has realized a capital gain. Such gains are taxed at 15% if realized within 12 months of the asset’s acquisition, or 10% if the asset has been held for longer than 12 months.

Converting the fund to a small APRA fund may allow for this disincentive (that is, a CGT event) to be avoided. The fund effectively continues, but with a change of legal owner. As there is no change in beneficial ownership, this change does not give rise to a tax event. This option can be a useful one if the SMSF cannot be continued, but there is one or more assets that the members would like to retain. A larger managed fund (such as a retail or industry fund) will be unable to accept such an asset as either a rollover or a contribution.

Further Information

Once again, the ATO have developed a short video explaining the need for an SMSF to plan for things that might cause an SMSF to need to finish up:

ASIC have also provided a short page on their excellent Moneysmart website dealing with getting out of an SMSF. You can view it here.