Top Superannuation Q&As - July 2016
by Knowledge Shop Editor, on 11/07/16 10:37
This month's top superannuation Q&As live from the Knowledge Shop Help Desk:
- Rectifying an SMSF in-house asset breach
- SMSF End Of Year Letter - Contributions you didn’t know you made
- Calculating the minimum pension when a member dies
- Options when unable to pay minimum pension before 30 June to stop it reverting to accumulation phase
- Is a loan from a SMSF to a private company an in-house asset if the SMSF is a minority shareholder in the private company and the member is not a Director?
1. Rectifying an SMSF in-house asset breach
I am auditing a fund that has breached the 5% in-house asset rules.
The fund owns a property with a house located on it. When the fund acquired the property it was used wholly as business real property and so we did not have an issue. During the 2015 audit, we discovered that the brother of a member had been living in the property for some time. The value of the property is 85% of total assets so there is no question that the 5% in-house asset test is breached.
My question relates to the rectification of this breach. The trustees have put in place a written plan to give the residential tenant notice to vacate the property thereby causing the property to be no longer an in-house asset. This is planned to be implemented by September 2016.
Is this sufficient to rectify the issue? Specifically,
- Does the rectification need to be completed by 30 June 2016, or just the written plan in place by that date?
- Is simply causing the property to no longer by an in-house asset sufficient, or does the property need to be disposed of?
There are 2 audit issues that I draw your attention to:
This section is applied at 30 June of each year and requires the in-house assets (IHAs) of the SMSF not to be above 5% at that time. If the level of in-house assets is above the allowed 5% at 30 June then there are a series of steps that need to be taken.
The legislation reads:
All funds--market value ratio for the 2000-2001 year of income and later years of income
(1) This section applies to a regulated superannuation fund.
(2) If the market value ratio of the fund's in-house assets as at the end of:
(a) the fund's 2000-2001 year of income; or
(b) a later year of income;
exceeds 5%, the trustee of the fund, or, if the fund has a group of individual trustees, the trustees of the fund, must prepare a written plan.
(3) The plan must specify the amount (the excess amount) worked out using the formula (see section 82).
(4) The plan must set out the steps which the trustee proposes, or, if the fund has a group of individual trustees, the trustees propose, to take in order to ensure that:
(a) one or more of the fund's in-house assets held at the end of that year of income are disposed of during the next following year of income; and
(b) the value of the assets so disposed of is equal to or more than the excess amount.
(5) The plan must be prepared before the end of the next following year of income.
(6) Each trustee of the fund must ensure that the steps in the plan are carried out.
This prohibits an SMSF from entering into an arrangement where the arrangement will cause the level of In-House Assets to exceed the allowed 5%. So, essentially a prohibition on the actual transaction; in this case entering into a lease with the brother (related party).
The legislation reads:
Certain new in-house asset investments prohibited
(1) This section applies to a regulated superannuation fund.
(2) If the market value ratio of the fund's in-house assets exceeds 5%, a trustee of the fund must not acquire an in-house asset.
(3) If the market value ratio of the fund's in-house assets does not exceed 5%, a trustee of the fund must not acquire an in-house asset if the acquisition would result in the market value ratio of the fund's in-house assets exceeding 5%.
(4) For the avoidance of doubt, a reference in this section to acquiring an in-house asset includes a reference to making an investment or a loan, or entering into a lease or a lease arrangement, if the resulting loan or investment, or the asset subject to the lease or the lease arrangement, would be an in-house asset.
So from what you have set out, there seems to be a breach of SIS s83 - by entering into the transaction.
There also seems to be an issue under SIS s82 as the level of in-house assets is well above the 5% limit as at 30 June. The trustees MUST then follow the guidance in SIS s82 to determine how far above the IHA limit they are, set out what steps will be taken to get back below 5% by DISPOSING / SELLING one or more of the funds IHA's.
We would suggest that having the relative vacate the property would not on its own comply with SIS s82 - that there is no disposal.
Your client may wish to consider seeking an exception from the Commissioner on this. They would need to contact the ATO, state their case and request that the asset be allowed to be kept. There is no guarantee on an outcome for this.
2. SMSF End Of Year Letter - Contributions you didn’t know you made
In Knowledge Shop’s recent end of year SMSF letter, there is a section called 'Contributions you didn't know you made'. Included on the list is 'Increasing the value of a fund asset'. What does that refer to? Does that refer to members putting money into the fund so it can buy shares for example?
This refers to the scenario where someone increases the capital value of the SMSF by increasing the value of an asset; similar to value shifting.
The following is set out in TR 2010/1:
Increasing the value of, or shifting value to, an asset owned by the superannuation provider
29. The fund's capital may be increased when a person (other than the superannuation provider) increases the value of an existing asset of the fund, for example, by making an improvement to the asset.
30. A contribution by way of an improvement to an asset of a fund, such as making an improvement to land or a building owned by a superannuation provider, is made when ownership of the improvement passes to the superannuation provider. In the absence of a lease or other agreement that provides otherwise, ownership of the improvement would pass immediately on the improvement becoming a fixture to the land or building.
31. An increase in the capital of the fund may take the form of increasing the value of an existing asset of the fund through a value shifting arrangement that transfers value from an asset held by another.
32. A contribution by way of value shifting to an asset owned by a superannuation provider is made when the capital of the fund is increased because of the increase in value of the asset.
3. Calculating the minimum pension when a member dies
We have a client with a SMSF with two members both in pension phase at 1 July 2015. Member 1 was 78 and member 2 was 65 at 1 July 2015. Member 1 died in December 2015 and the pension was reversionary to Member 2 at that date. How do we calculate the minimum pension for the fund, i.e. do you continue to apply the 6% for the full year or do we do some form of pro rata calculation based on opening balances at 01.07.15 and date of death?
If the pension was a reversionary pension then it will not cease on the death of the initial recipient; the same pension will continue on and be paid to the nominated recipient. You need to make sure that at least the minimum pension is paid for that year (by 30 June) - which would include payments to the deceased prior to death and then payments made to the reversionary beneficiary after the death. It is not a requirement to pay the minimum prior to death.
It is our understanding that if the pension was a reversionary pension, then in the year of death the minimum pension should be calculated on the deceased's age.
For future years, the minimum pension then needs to be calculated on the reversionary beneficiaries age.
4. Options when unable to pay minimum pension before 30 June to stop it reverting to accumulation phase
We have a member of a SMSF who is 81 years old and is required to draw a minimum pension of $77,000 before 30 June 2016. Unfortunately, the SMSF’s assets are not liquid and the earliest date at which time a term deposit matures (under the new 31 day notice period rules) is 15 July 2016. Further, the fund will not be in a position to access the 1/12th minimum pension underpayment concession.
Taking into consideration the above, as well as TR 2013/5, are there any practical solutions that will prevent the SMSF from reverting to accumulation phase from 1 July 2015? Any reference to rulings or legislation would be appreciated.
It may be that the SMSF could borrow under SIS s67 for a short period to pay the required pensions.
Exception--temporary borrowing to pay beneficiary
(2) Subsection (1) does not prohibit a trustee of a regulated superannuation fund from borrowing money if:
(a) the purpose of the borrowing is to enable the trustee to make a payment to a beneficiary which the trustee is required to make by law or by the governing rules and which, apart from the borrowing, the trustee would not be able to make; and
(b) the period of the borrowing does not exceed 90 days; and
(c) if the borrowing were to take place, the total amount borrowed by the trustee would not exceed 10% of the value of the assets of the fund.
The other issue I would address is that the fund’s investment strategy seems to be deficient here - that the trustees may need to address this so as issues under SIS Reg 4.09 don't continue.
5. Is a loan from a SMSF to a private company an in-house asset if the SMSF is a minority shareholder in the private company and the member is not a Director?
An SMSF loans more than 5% of it's assets to a private company. The SMSF owns less than 50% of the shareholding in the Private Company and therefore has no control. The member is not a Director of the private company, but is an employee.
Is the loan to the private company an in-house asset, and if so, if the SMSF lends more than 5% of the SMSF's assets to the private company will this be a breach of the in-house asset rules?
You would need to check if the private company is in fact a related company:
A related company is, as per SIS s70B:
(f) a company that is sufficiently influenced by, or in which a majority voting interest is held by:
(i) the primary entity; or
(ii) another entity that is a Part 8 associate of the primary entity because of another paragraph of this section or because of another application of this paragraph; or
(iii) 2 or more entities covered by the preceding subparagraphs.
Sufficiently influenced by, or in which a majority voting interest is defined under SIS 70E:
Sufficient influence/majority voting interest
(1) For the purposes of sections 70B, 70C and 70D:
(a) a company is sufficiently influenced by an entity or entities if the company, or a majority of its directors, is accustomed or under an obligation (whether formal or informal), or might reasonably be expected, to act in accordance with the directions, instructions or wishes of the entity or entities (whether those directions, instructions or wishes are, or might reasonably be expected to be, communicated directly or through interposed companies, partnerships or trusts); and
(b) an entity or entities hold a majority voting interest in a company if the entity or entities are in a position to cast, or control the casting of, more than 50% of the maximum number of votes that might be cast at a general meeting of the company.
So, if the company is sufficiently influenced by, or in which a majority voting interest is held by the fund members and their part 8 associates, then this would become a related company and hence the loan from the SMSF would be caught as an in house asset.
You will also therefore need to see who the other shareholders are and determine if they are related parties / part 8 associates of the SMSF. Where they are, you will need to add their interests to the interests held by the SMSF to determine any application of the above. Work through all of SIS s70B for this.
Where the company is a related party / part 8 associate, the loan (and even the investment) may get caught as an in house asset.
Another issue to work through is to determine if the employer is a STANDARD EMPLOYER SPONSOR, as these are related parties / part 8 associates of an SMSF.
As per SIS s16(2):
(2) If an employer so contributes, or would contribute, wholly or partly pursuant to an arrangement between the employer and a trustee of the regulated superannuation fund concerned, the employer is a standard employer-sponsor of the fund (as well as being an employer-sponsor of the fund). If the employer only so contributes, or would contribute, pursuant to arrangements between the employer and a member or members of the fund, the employer is not a standard employer-sponsor.
Most SMSFs would not have a standard employer sponsor, they have employer sponsors.
Again as per SIS s16:
(1) An employer-sponsor of a regulated superannuation fund is an employer who:
(a) contributes to the fund; or
(b) would, apart from a temporary cessation of contributions, contribute to the fund;
for the benefit of:
(c) a member of the fund who is an employee of:
(i) the employer; or
(ii) an associate of the employer; or
(d) the dependants of such a member in the event of the death of the member.
As you can see from the above, there is a difference here - and note that Standard employer-sponsors are caught as related parties whereas employer sponsors are not.
Any investment in or loan to a Standard employer sponsor would be caught as an in house asset and hence the %5 limit would apply to all in house assets - whereas an investment in or loan to an employer sponsor would not be caught as an in house asset.
You will also need to refer to the SMSF trust deed and investment strategy for any fund specific rules or requirements.