SMSF is by far and away the most popular type of Superannuation fund with the largest in number and average account balance. It’s the fund of choice for most wealthy investors.
The main advantages of an SMSF are:
- Can use borrowed funds to gear your investments.
- Can invest in Direct Property and other assets not available in public offer super funds.
- Can lease Business premises to related parties.
- Complete control over Trustee discretion for Estate Planning.
It may also be possible to have lower fees and better tax outcomes. SMSF is the most important area of Superannuation but it is also the most complicated.
What’s the ticking time bomb?
The aging of fund members will result in more and more members losing the capacity to manage their own affairs. It can help for a member to appoint an enduring power of attorney, but the steps that need to be taken to ensure that their fund has legally complying trustees are often too complicated for most people.
Whilst there is a risk of a fund being found to be non-complying by the ATO, the bigger risk is of disputes among family members.
In the past, Member disputes have arisen as a result of a relationship breakdown or death benefits. An attorney is required to act in the principal’s best interests and not gain a benefit from being an attorney but they are permitted to change death benefit nominations.
If the scenario arises where a binding death benefit nomination expires and the attorney does not renew it, trustee may have the discretion to pay the death benefits to themselves. Thus raising the question, where does this leave the other potential beneficiaries?
Katz v Grossman involved a two person (husband and wife) fund with individual trustees.
After his wife passed away in 1999, Ervin Katz appointed his daughter, Linda Grossman, as an additional trustee.
When Ervin Katz died, Linda Grossman appointed her husband as an additional trustee. Together they determined that Mr Katz’s death benefits (which exceeded $1 million), be paid solely to Linda Grossman, despite the deceased’s non-binding nomination’s preference to pay the benefit equally between his daughter and son (Daniel Katz).
Daniel Katz contested in Court, the technicalities in the appointment of Linda and her husband as trustees. Those arguments ultimately failed and the trustees’ decision remained effective.
What can we learn from Katz v Grossman?
Control of the fund had been seized by Linda Grossman and her husband.
As trustees, they were able to pay the benefit without following the non-binding nomination, which was no more than a consideration for the trustee to take into account.
The Superannuation Complaints Tribunal has no basis for reviewing an SMSF trustee discretion decision. Raising a dispute through the court system can be costly and may be ineffective in terms of resolving a key issue to the satisfaction of the aggrieved party.
The important takeaway from this case is to ensure that binding death benefit nominations are used when necessary and that control of the fund is fairly apportioned to beneficiaries.
This just adds to the long list of problems that SMSFs are now facing.
Auditors under pressure
SMSF auditors are registered with ASIC. Auditing has always suffered from an ‘expectation gap’ whereby outsiders believe that they are highly capable of detecting fraud when that is not the reality.
In 2018, a NSW Supreme Court judge held that an SMSF auditor was liable to compensate the fund approximately $2m for failing to determine that the fund investments were failing. The fund trustee contended that if they had been warned at that time they could have recovered that money.
See Ryan Wealth Holdings Pty Ltd v Baumgartner  NSWSC 1502
ASIC are now also taking stronger enforcement action against Auditors.
As a result of this, Auditors will refuse to sign off on Financial Accounts if they have any concerns and the fees for auditing will increase. Professional Indemnity premiums for SMSF auditors will increase and many auditors may decide that it’s not worth continuing in their line of business.
The fund tax return cannot be lodged without the audit sign-off. Failing to lodge SMSF tax returns can result in the fund losing registration as a complying super fund.
It is a legal requirement to have an investment strategy and the specifics of these strategies have tightened over time. The ATO now wants to ensure that fund members are aware of the risks they are taking in their investment choices.
If a fund owns a geared real estate investment, then this is considered high risk and the fund trustees must demonstrate that it is appropriate.
Financial Advisers and auditors can now be held accountable for not ensuring that fund members are aware of the risks they are facing. Advisers need to be cautious when dealing with less sophisticated or unengaged clients. There is a strong argument for Advisers to insist that both partners are always present at review meetings.
What to do?
If you have an SMSF and you’re not sure if everything is in order, we are very happy to arrange for someone to review that fund for you. The earlier problems are identified, the easier they are to fix.