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  • SMSF Association Speech by James O'Halloran

    SMSF Association National Conference - 2018

    International Convention Centre, Darling Harbour, Sydney

    "The regulatory outlook for SMSFs"

    Plenary Session 4

    Thursday 15 February 2018

    James O'Halloran, Deputy Commissioner Superannuation

    Australian Taxation Office (ATO)

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    Introduction

    Thank you for the opportunity to participate in the SMSF Association (SMSFA) 2018 National Conference.

    Along with ASIC and Treasury, the ATO is well aware, as the regulator for the SMSF sector, that the sector is dynamic and as important to the future of individual members, as it is for the financial industry more broadly.

    An appreciation of the impact that decisions made for this sector can have is especially important as we start this calendar year. We are all emerging from 2017, where much foundational work was done to get across the superannuation reforms. These reforms are now law and the majority will directly impact the 2017–18 financial year.

    The ATO will of course continue to support the segment not only by providing ongoing certainty and practical support, but also by progressively and sensibly seeking to ensure SMSFs comply with the law. A key component for us will be to, where we can, prevent breaches before they occur.

    It was with this approach in mind that, before 1 July last year, we communicated with those who, based on information we held about their super interests, may have been impacted in the near future by the super reforms. This included those we believed to have been making non-concessional contributions and were in a bring-forward arrangement; were approaching or may have exceeded the $1.6 million transfer balance cap; were making concessional contributions over $25,000; or were approaching or may have exceeded the $1.6 million total super balance.

    Additionally, I remind you that via ATO online within myGov, there is new information now visible for individuals including the ability to view details of all their super accounts reported to the ATO. The new information includes account balance and insurance indicators; total super balance; and the status of bring-forward arrangements relating to non-concessional contributions. This is in addition to the pre-existing visibility of ATO-held super and the ability for individuals to consolidate super accounts.

    Environment

    Of course, our environment and yours never stands still. Changes don’t operate in isolation and therefore decisions about super are never isolated from investment choices, income tax consequences or trustees’ regulatory obligations to ensure the continuity of community trust and confidence in the SMSF sector.

    There is no doubt recent super changes have introduced new considerations for SMSFs. It could be said that super needs to be seen, valued and actively owned more than ever before. So it is important that an SMSF be actively managed not only for the here and now but also in preparation for the future. After all, super remains a long-term tax and investment strategy.

    The ATO is genuinely committed to listening to your feedback and considering your circumstances. We will help you by providing early and practical guidance while also seeking every opportunity to improve your experience in dealing with us.

    We have demonstrated that we recognise the importance of working with you and the SMSF Association to move into another productive year. We consider ourselves fortunate to have such a positive and practical relationship with this sector, formally supported through the three-year strategic partnership signed by the ATO and the SMSFA, on 15 February 2017 at last year’s SMSFA conference.

    This agreement commits the ATO and the SMSFA to work together to enhance knowledge and competency in the sector, build and share deeper insights into the segment and streamline, and where possible minimise, regulatory intervention.

    As in any relationship, there are at times differences of perspective. However, such differences are healthy; they reflect a relationship mature enough to withstand robust discussion in the interest of achieving a greater good. In such a spirit, we have made good progress this past year through initiatives and activities including:

    • joint participation in an industry based ‘think-tank’
    • senior leader presentations at our respective meetings and conferences
    • collaborative involvement in all consultation processes
    • joint recordings of professional webinars.

    So I want to thank the SMSFA and its board for our productive relationship in a year where we were all working though the implementation and administrative issues arising from a complex set of reforms. The assistance you provided in harnessing skilled people with deep practical and technical expertise proved invaluable during the detailed design and implementation plans.

    Since last February’s conference, where I spoke of emerging reform issues, we have made major advances with your assistance and we all now have some greater certainty. At the time I spoke of the then progressive release of our ATO Law Companion Guidelines, the importance of CGT relief claims and the likely reporting arrangements for SMSFs.

    The key elements are now in place and the super reforms are no longer new or yet to impact. They are in place; and for all intents and purposes operational.

    In terms of ATO support since the last conference, we have continued to engage and consult with the SMSF sector about many issues that have arisen. Indeed, as we have received feedback and final legislation we have continued to issue and update our Law Companion Guidelines, Practical Compliance Guidelines and guidance notes to include clarifications and improved examples.

    Specifically, on 20 December 2017 we updated three key Law Companion Guidelines to reflect amendments arising from the Treasury Laws Amendment (2017 Measures No. 2) Act 2017 to the law on total super balance, transfer balance cap and transitional CGT relief for super (refer LCG 2016/12A3; LCG 2016/9A2 and LCG 2016/8A2).

    At the same time, SMSF trustees and members need to be mindful of the regulatory and income tax risks that arise from particular planning arrangements that may appear attractive in light of the new caps and limits that apply post 1 July 2017.

    Some of these have been the subject of public commentary.

    So I would like to confirm that the requirements of SMSF asset valuations and the relevant principles for valuing SMSF assets have not changed. The importance and consequences of SMSF asset valuations have undoubtedly increased in light of the total super balance, transfer balance cap and transitional CGT relief measures and the importance of SMSF asset valuations supported by objective data and evidence cannot be underestimated.

    SMSF reporting has been topical as well. In November 2017, we finalised our expectations for new ‘event-based’ SMSF reporting requirements (EBR). The ATO issued a media release on 9 November 2017 outlining our final position on event-based reporting of members’ transfer balance cap events. We confirmed that from 1 July 2018, EBR will be limited to SMSFs with members with total super account balances of $1 million or more. You can find much useful information on this topic on the ATO website under Event-based reporting for SMSFs.

    In terms of the reporting process for super funds for the transfer balance cap, most APRA funds started reporting in December 2017. In looking at the data it is interesting to note that since event-based reporting to the ATO was made accessible through the Transfer Balance Account Report (TBAR) form, some 900 SMSFs have voluntarily submitted a TBAR form which reported the transfer balance cap amounts for some 1,200 members.

    You should therefore note that we have started to issue a small number of excess transfer balance cap determinations. If an individual who is a member of an SMSF receives one of these, their SMSF will need to report sooner than 1 July 2018; for example: a commutation must be reported 10 business days after the end of the month in which the commutation occurs. However, just because an individual doesn’t hear from the ATO or receive an excess transfer balance cap determination from us, doesn’t mean they don’t have an issue.

    We don’t know if someone has exceeded their transfer balance cap until the relevant account information is reported to us by the individual’s fund. Similarly, if an SMSF member doesn’t know their total super balance until some 10 to 11 months after the end of the financial year, they won’t be in a position to make non-concessional contributions without some uncertainty as to whether they may exceed their cap.

    Based on the information we have to date, we expect the incidence of excess contributions determinations to be quite low. However, to put this in context, to my mind reporting is merely bringing to the light decisions already made by trustees or members.

    It remains the case that if members don’t actively monitor their transfer balance account position as important decisions are made, they may inadvertently exceed the transfer balance cap and face an unexpected and increased tax liability. Remember, the excess tax is calculated from the time of the decision or the event, not the date it is reported to the ATO.

    SMSF performance and growth

    Last month, we released our annual SMSF statistical overview. This information is primarily based on information provided to the ATO through returns for the 2015–16 financial year and I’d like now to discuss a few highlights and make some observations.

    For some time we have been working with the SMSFA to share insights about the SMSF sector by making some of our data available to you, and where possible improving its utility and aligning some of our reporting on SMSFs to enable comparisons with APRA analysis.

    As an example, last year we further analysed and broke down the reported total expenses incurred by SMSFs into the same categories that APRA use in their statistical report. We have also made improvements to our methodology which provides a more accurate reflection of the current state of the number of corporate trustees.

    And finally to give a sense of perspective over time, this year we also have added a short feature piece that tracks some key performance and growth statistics of funds that started operating in 2011–12, looking at where they are now.

    In 2011–12, it is estimated there were 473,000 SMSFs with assets to the value of $422 billion. The mean and average age of members was 52. Using SMSF lodgment data, in 2011–12, 25% (114,300) of all SMSFs had $200 000 or under in their fund; by 2015–16, this figure had reduced to 18% (79,800) of all SMSFs.

    Of direct relevance perhaps is that in 2011–12, 43% (193,400) of SMSFs were in partial or full pension phase. Over the five years to 2015–16, this proportion increased by 4% with 47% (210,200) of funds in partial or full pension phase.

    SMSF asset balances

    The spread of assets associated with SMSFs is always of interest. While of course it is not the ATO’s role to comment on investment choices, I can say that the figures have remained relatively stable over the past two years.

    An examination of the number of SMSFs by asset holdings indicates that in 2011–12 approximately 10% (47,400) of SMSFs held assets of greater than $2 million which by 2015–16 had increased to 14% (63,800). Further In 2011–12, while some 2% (8,100) of SMSFs held assets of greater than $5 million, this had increased to 3% (12,600) in 2015–16. In 2011–12, approximately 0.3% (1,300) had assets over $10 million, which had increased to 0.5% (2,400) in 2015–16.

    An examination of the dollar value of assets held by funds indicates that the total value of assets, for SMSFs with over $10 million represent 8% (or $46 billion) of total SMSF assets. Indeed approximately 5,600 SMSF-only members have a balance over $5 million compared to some 420 APRA-only fund members. Of course it should be noted that there are some 2,300 APRA funds with 16.7 million members.

    In 2015–16, there were however six SMSFs with over $100 million in assets and across APRA and SMSF funds, there are about 1,500 individuals (up from 1,400 in 2014–15 financial year) with a combined APRA fund and SMSF balance over $5 million.

    For those interested in the nature of investment types, I can advise that as at 30 June 2017, SMSFs held total borrowings, including limited recourse borrowing arrangements (LRBAs), of $21.4 billion, representing 3% of the $697 billion total assets held by SMSFs.

    Assets held by SMSFs under LRBAs were just over 4% (or $28.6 billion) of total assets held by SMSFs in 2017, with real property assets comprising 93% of the total value of LRBA investments, split almost equally between residential property and commercial property assets.

    Over the past five years, with average assets per fund increasing by 25% (to $1.1 million), and average assets per member increasing by 26% (to $599,000) it’s pretty clear that the desire to use SMSFs as a vehicle for growth continues. Indeed, growth in the number of funds averaged 6%.

    With some 597,000 SMSFs having total assets worth $697 billion, or 30% of the $2.3 trillion in total super assets, it’s worth making a few observations as to why people choose an SMSF.

    A recent research paper1 provides some insight into the reasons people start an SMSF and what is of particular importance to them. Over 1,000 super fund members (comprised of 50% SMSF members and 50% large fund members) were surveyed to analyse why people choose to establish an SMSF.

    The report concluded that people who don’t want an SMSF were happy with their current fund or didn’t think they had the necessary skills to run their own fund. Of those who moved to an SMSF, the top five reasons (with a possible response range of -100% to +100%) were:

    • be involved in administration and their investments (35%)
    • minimise tax (28%)
    • attracted to the variety of investment opportunities (26%)
    • wanted to manage the fund (25%)
    • wanted to purchase property (20%).

    In terms of the influence of advisers, over 60% of those surveyed who had an SMSF attributed the idea to an accountant, financial planner or an administrator; when people began an SMSF, 40% immediately invested in mainly Australian shares that paid fully franked dividends; 38% increased their super contributions and 28% invested in what they considered to be safer assets.

    So, super in its varied forms needs to be valued; this includes the special position that SMSFs hold in the sector. While these funds are not free of obligation or responsibility, they allow members to cater for personal expectations.

    ATO monitoring for 2018

    We do appreciate of course that SMSFs, trustees, members, advisers and auditors are involved in many activities which require prudence and at times it will be necessary to seek advice in order to make the most informed decisions. Indeed, in some cases the decision not to do something despite ‘free advice’ to the contrary, may be the best course of action.

    It’s been widely acknowledged that the ability to operate and invest in an SMSF provides a degree of control over one’s financial future but it’s also important not to take this responsibility lightly. It’s essential to meet regulatory obligations, make sound investments and protect members.

    In May 2016, we launched the ATO’s SMSF early engagement and voluntary disclosure service as a one-stop-shop for people to come forward and self-identify issues or breaches with their SMSF.

    During 2016–17, the service continued to be well supported; in that financial year we received 266 voluntary disclosures and from July to December 2017, we received 102 new voluntary disclosures. Pleasingly, of all these disclosures to date, only 2% have required further compliance action by us after the voluntary correction of the disclosed issue or breach.

    We are pleased the service is well used and gratified by the behavioural change by people once they have tied up their breaches by working co-operatively with us.

    Persistent non-lodgers

    Last year at this conference I spoke of the importance of SMSF lodgment; it’s a cornerstone obligation for any trustee in a properly operating SMSF. Even of those people who have come forward through the early engagement program, some 48% had one or more SMSF annual returns outstanding.

    Now as you know, even if SMSF trustees have a tax agent, trustees themselves are responsible for their SMSF. As importantly, even if the SMSF is in pension phase there is still the requirement to lodge.

    Throughout this financial year we have increased our assurance activities to seek to reduce the level of long-term outstanding lodgments. Whilst approximately 86% of SMSFs lodge on time each year, one of our projects this financial year is to target those who have not lodged for some time.

    To date, over 6,000 funds have re-engaged with us and brought all their lodgments up to date; but we took harsher action against some 8,600 funds which resulted in the wind-up of the fund and the cancellation of their ABNs.

    Specifically, we identified some 12,000 SMSFs (linked to 5,000 agents) that had either never lodged an SMSF annual return or had more than two years of overdue lodgments.

    We contacted these agents to establish the reasons for non-lodgment, with a view to secure lodgments or wind up the funds. So far we have contacted nearly 3,000 agents relating to over 8,600 funds.

    Pleasingly, we have therefore seen a 38% reduction in non-lodgers, with overdue lodgments now down to about 30,000 long-term non-lodgers. This non-lodger work will continue into the 2018-19 financial year.

    CGT relief and lodgment 2016–2017

    With respect to 2016–17 lodgments of SMSF annual returns, we issued a media release on 19 January 2018 confirming we had granted a deferral of all SMSF lodgments until 30 June 2018.

    The extension of the due date for lodging 2017 SMSF annual returns also applies to the due date for payment of any relevant 2017 financial year income tax liability.

    Trustees now have until 30 June 2018 (or the next business day, as 30 June is a Saturday) to lodge a return with an election for transitional CGT relief as part of the super changes that came into effect on 1 July 2017, or amend a lodged 2016–17 return in order to include an election if one wasn’t made.

    This lodgment deferral was a response to concerns raised by industry professionals who advised us that their current focus is on providing the correct advice to their SMSF clients on issues relating to transitional and ongoing arrangements flowing from the super changes that began on 1 July last year. SMSF trustees and their advisers needed time to fully consider all the issues; for example, SMSFs eligible for transitional CGT relief will now have more time to consider this option and make the relevant elections.

    This deferral I believe demonstrates the ATO’s focus on working with industry stakeholders to provide sensible outcomes that take circumstances into account as they arise. However, we do expect to see high levels of compliance with the new date as it is more than reasonable.

    While discussing CGT, it may be useful to remind you that just this week we published updated guidance on transitional CGT relief which is available on our website.2 The updated material provides detail on the operation of the CGT relief provisions, including how they can apply to an SMSF paying a TRIS. Additionally, the use of new examples should help trustees to understand that if they elect to use CGT relief, it will apply differently depending on the method that was used to calculate the fund’s exempt current pension income at the start of the ‘pre-commencement period’ (which was 9 November 2016 – 30 June 2017).

    If they choose CGT relief, trustees need to advise the ATO via the approved form by completing the CGT schedule to the 2016–17 SMSF annual return.

    It’s important that trustees are aware that CGT relief is not automatic and that once the CGT election is made in the annual return, it is irrevocable.

    Therefore, we strongly encourage anyone who is considering taking advantage of this transitional CGT relief to refer to our updated material and seek independent professional advice before making an election.

    Commissioner’s view of the application of the law

    The Superannuation Industry (Supervision) Act 1993 (SISA) contains a number of regulatory rules that super funds must comply with.

    The sole-purpose test is a fundamental pillar of super fund regulation which maintains that the investments of a super fund must be for the sole purpose of providing retirement and death benefits to members.

    The Commissioner considers that using fund assets to provide residential accommodation to a member or relative may contravene this test, even if the fund receives arm’s-length rent.

    Trustees also need to understand the in-house asset rules, as a fund’s in-house assets cannot exceed 5% of their total assets. If you are unsure if an investment will be an in-house asset, seek independent advice or write to us.

    Late last year, the Federal Court dismissed an application by the trustee of an SMSF challenging the Commissioner’s views on superannuation regulatory provisions.

    The Federal Court held (inter alia) that leasing to a related party would cause the trustee of the super fund to contravene the sole-purpose test, by using the assets of the super fund for a collateral purpose of providing accommodation to a related party.

    The case has been appealed to the Full Federal Court, so I can’t say much more, but it will be an important matter to watch.

    SMSFs and use of reserves

    For some months now we’ve been flagging caution in relation to the use of reserves for SMSFs. With the introduction to the transfer balance cap and total super balance concepts there has been some discussion in the community about the correct use of reserves and how they interact with these concepts.

    While many of the existing reserves held in SMSFs have arisen legitimately in the context of legacy pensions that are no longer available, the Commissioner considers that any need to maintain reserves in SMSFs is distinct from the need to maintain reserves in super funds regulated by APRA. For example, some reserves in large APRA funds are intended to spread potential costs across different ‘generations’ of members. This is different from SMSFs, which by their nature only have a small membership.

    Following the introduction of the government’s super reform measures announced in the 2016–17 Budget, we’re concerned that some SMSFs may implement strategies utilising reserves that are designed to circumvent restrictions imposed in the super and income tax legislation and thereby weaken the integrity of these measures.

    Therefore, we expect that SMSFs will use reserves only in limited circumstances and for specific and legitimate purposes. Where an SMSF purports to hold an amount in a reserve as opposed to allocating directly to a member’s super interest for the benefit of the member and their beneficiaries, we will consider whether the trustee is acting in accordance with their obligations under the SISA.

    To give you some sense of the current incidence of reserves, as at September 2016 I can confirm that the number of reserves hasn’t grown and the average balance is in the order of $160,000. Of course there are some that are dramatically larger; 132 funds have balances over $500,000 and nine have balances over $5 million.

    We’ve had some preliminary feedback that SMSFs may be considering using reserves outside limited and legitimate circumstances as part of a broader strategy to circumvent these restrictions.

    We will closely scrutinise any arrangements that arise unexpectedly or are out-of-pattern vis-a-vis the 2016 data I have shared. In suitable cases we would consider the potential application of the sole-purpose test under section 62 of SISA and Part IVA of the Income Tax Assessment Act 1936.

    Of course, while we think there is a need to warn SMSFs, the best-case scenario is that this doesn’t become a concern and that trustees appropriately manage existing reserves and can explain the creation of new ones.

    I can advise that we won’t apply compliance resources to review SMSF actions in relation to reserves before 1 July 2017 unless there is clear evidence of an attempt to circumvent the 2016 Budget super reform measures.

    So, if you are considering using reserves in your SMSF, I strongly encourage you to seek independent professional advice or approach the ATO for advice before doing so.

    SMSFs and investment in cryptocurrencies

    As you’re no doubt aware, there has been quite a bit of discussion recently in the community regarding cryptocurrencies. We have had a few questions come to us on the subject of investing in these within SMSFs.

    While the regulatory and tax laws that apply to SMSFs don’t specifically prohibit investment in Bitcoin or other cryptocurrencies, in addition to the tax considerations that arise, there are also super regulatory matters that must be considered by anyone contemplating investing in cryptocurrencies in their super fund.

    The nature of Bitcoin and other cryptocurrencies may mean that compliance with the regulatory rules and restrictions that apply to SMSF investments is more difficult – for example, the regulatory requirement that the fund’s assets are managed separately from the member’s personal and business assets and ensuring that the SMSF has clear legal ownership of the Bitcoin or relevant cryptocurrency, as well ensuring that the investment is appropriately valued for both accounting and tax purposes.

    So, as is always the case with any SMSF investment, trustees need to ensure that an investment of this nature is consistent with their fund’s investment strategy.

    We therefore strongly encourage SMSF trustees to seek independent professional advice before undertaking any new type of investment in their fund.

    SMSFs and trustees’ behaviour

    As a significant investment vehicle, running an SMSF appropriately depends on the central role of trustees and their willingness to meet their regulatory obligations and operate in an ethical and appropriate manner. The SMSF sector should be pleased with its reputation and performance; it has been solid for many years.

    Of course, every incidence of an SMSF operating inappropriately has the potential to damage the reputation of the sector as a whole, and of course this serves no one well and can damage the community perception of SMSFs.

    From the ATO’s perspective, our greatest ally against any unintended consequences or mischief within the SMSF sector is each of you. It is you, in your various roles across the sector, who can advise or exercise prudence, seek advice as necessary and therefore prevent breaches before they happen.

    Nearly everyone in the SMSF sector, whether as a member, trustee, adviser or tax agent, influences and hears ‘bright ideas’ first-hand. As I have said before: ‘if it sounds too good to be true, it probably is.’ Unfortunately, it’s just the way of things that although 99.5% of people may do the right thing, it’s the other 0.5% who will get the attention.

    There is no advantage for any of us to be involved in a sector which has a poor reputation regardless of the efforts of the 99.5% of people who do the right thing.

    Some of the behaviours that have come to our attention include SMSFs with assets which were not held correctly in the fund’s name and others with up to 19 years’ worth of non-lodgment and no documentation. While such examples are rare and certainly not representative of the sector, they are real cases and the best thing the funds did was to come forward.

    Reform and change can give rise to many ‘what if I do this?’ scenarios. But if we all call out, try to prevent and even report questionable behaviours such as the provision of inappropriate advice or the promotion of aggressive tax planning or more serious matters involving the theft of people’s hard-earned super through fraud, we will all be better off.

    As we’ve noted before, sometimes people act on the advice of a ‘friend’ who has a ‘great idea’ for a no-risk, high-yield investment. Or a scheme may be marketed or pushed to fund members. While I think such things aren’t common practice, it’s our collective vigilance and early action that has ensured the reputation of the SMSF sector remains as high as it is now. After all, any concessionary system is attractive and open to abuse.

    I therefore have no doubt that many here today would be surprised and even disappointed to know we still find trustees who breach their regulatory obligations to the degree that we disqualify them from being SMSF trustees.

    To give a sense of churn in the SMSF sector, as at December 2017 we received registrations for some 13,000 SMSFs to be examined by the ATO. All new registrants are treated appropriate to the risk to their retirement savings based on an automated risk assessment. Where new registrants are considered high risk the SMSF is reviewed to determine the genuineness of the SMSF. In 2016–17 our models identified about 7.6% (2,400) of the 31,000 new registrants that needed some further review.

    From some 2,400 pre-registration checks we undertook last financial year, we withheld some 600 registrations and cancelled the ABNs of 573 after further review.

    As a comparison, from 1 July 2017 to 31 December 2017 we cancelled the ABNs of 288 funds and placed restrictions on a further 200 funds.

    The ability to operate an SMSF is an important obligation and one which the ATO takes seriously. Newly registered SMSFs and existing SMSFs with membership changes are assessed against a combination of risk attributes and financials of the fund and member.

    Overall we take action against approximately 300 individual trustees per financial year and unfortunately the trend seems likely to continue.

    For 2016–17 we disqualified 333 individual trustees, of which 150 were disqualified after being identified through our pre-registration checks and early intervention fund cases. A further 128 were disqualified as a result of inaction over an unrectified contravention reported by the fund’s approved auditor through an auditor contravention report (ACR) and 55 trustees were disqualified as a result of self-disclosing breaches.

    For this financial year to date, we have taken action and disqualified 214 trustees. The majority of these disqualifications were for illegal early release of funds and loans to members. Sixty-seven trustees came to our attention as part of our pre-SMSF registration checks and early intervention cases; another 50 were disqualified for unrectified contraventions reported by through ACRs. The remaining 48 trustees were disqualified for allowing early access of benefits of members and providing loans to members. Additionally, another eight trustees were disqualified for taking part in tax planning arrangements such as dividend stripping.

    A more serious concern is that in the past 24 months we have progressed 61 dividend stripping cases involving SMSFs. These arrangements are typically used to get large sums of money into the concessionally taxed super environment.

    Of these 61 cases, 25 were serious enough to take to the ATO General Anti Avoidance Rules (GAAR) panel, comprised of senior ATO tax technical experts and industry representatives, for advice. The panel found that in 19 of the cases it was reasonable for the Commissioner to apply the Part IVA provisions. The Commissioner has now agreed to terms of settlement in 13 cases, with a further four still under consideration.

    In instances where significant SISA breaches have occurred, outcomes have involved rectification of the SISA breaches to return the fund to full compliance with SISA (eg disposing of the shares, winding up the target company). In some cases, trustees have been removed and trustees have agreed to roll their assets to an SAF. From an income tax perspective, trustees are being required to repay franking credits and forego the benefit of future franking credits.

    The application of the NALI provisions to tax dividends and franking credits received by SMSFs at the highest margin rate (under section 295-550 of the Income Tax Assessment Act 1997) resulted in $1.3 million in tax liabilities being raised to date.

    Furthermore the application of the general anti avoidance provisions (section 177EA of the Income Tax Assessment Act 1997 and the dividend stripping provisions contained in section 207-145) to disallow franking credits has raised $6.5 million in tax liabilities.

    In 2016, the ATO raised concerns about dividend stripping arrangements and contrived arrangements involving diversion of personal services income to an SMSF and you have heard some examples of our results there. Through our compliance activities and general messaging we have seen fewer of these arrangements occurring.

    More recently, we have seen the emergence of schemes and arrangements which target SMSF members, particularly those approaching retirement. To this end, in November 2017 we updated our Super Scheme Smart program. Super Scheme Smart was developed in 2016 to help individuals and their financial advisers understand and recognise retirement planning schemes that don’t comply with super and tax laws.

    Super Scheme Smart gives taxpayers access to relevant case studies and information packs to help them recognise illegal arrangements, explains the significant risks associated with these, highlights warning signs to look for and advises where to go for help.

    Last November, we sought to warn SMSF members actively planning for retirement about the negative super and tax consequences of these arrangements. We want to ensure that members don’t jeopardise their retirement savings by becoming involved in risky schemes.

    While we’ve only seen a very small number of instances where these schemes have been implemented, we don’t want them to become a bigger problem in the future.

    We remain very interested, however, in artificial arrangements involving SMSFs and related-party property development ventures, for example, where SMSFs are either directly or indirectly involved in property development enterprises with related parties, often through joint ventures or trust structures. Some transactions have raised income tax issues regarding the application of non-arm's length income and super laws. These issues are related party transactions or arm's-length dealings, as well as compliance with the fund’s investment strategy and the sole-purpose test.

    Also a focus, are arrangements where an individual or related entity grants a legal life interest over a commercial property to an SMSF. This results in the rental income from the property being diverted to the SMSF and taxed at lower rates whilst the individual or related entity retains legal ownership of the property.

    Finally, arrangements where individuals (including SMSF members) deliberately exceed their non-concessional contributions cap to manipulate the taxable and non-taxable components of their fund balance upon refund of the excess.

    Our observations suggest that leading up to 1 July there was some renewed interest in these types of arrangements in light of the super changes. This perhaps was a function of the reduced caps and limits and the new restrictions that apply under the changes.

    A vital part of our role as regulator of SMSFs is to warn people about the regulatory risks such arrangements pose to SMSFs and their members. Whilst ordinarily we only find a small number of SMSFs who engage in high-risk schemes and arrangements, it’s critical that we take action to prevent them from becoming a bigger problem in the future. We don’t want to see people inadvertently putting their retirement nest eggs at risk from the significant regulatory sanctions and pecuniary penalties that can apply.

    Cross-agency work with ASIC to maintain integrity

    So far this financial year we’ve made 30 referrals to ASIC for concerns we’ve had over SMSF auditors, slightly more than the 22 referrals we made for all of 2016–17.

    These results perhaps reflect our increased focus on auditor assurance and have been built on again this year as we focussed on high-risk areas such as auditors who appear to be auditing funds where they have had a role or responsibility for preparing the accounts and financial statements, low-cost auditors, auditors who appear to be auditing relative’s funds and similar actions.

    Some 24 of the 30 auditors referred had issues identified relating to insufficient evidence, and 22 of those 24 also had independence issues. By way of background, we had earlier contacted some auditors with our concerns because they appeared to also be involved in preparing the accounts and financial statements of funds they audited.

    So during 2016–17 and 2017–18 we have been conducting full audits across this group. What we’ve seen is that the auditor is generally a sole practitioner (ie sole registered auditor in the business) but often with some staff. The staff typically prepare the accounts or financial statements and either the auditor signs off on them directly, or a senior staff member does. In our view this still creates an independence issue because the staff report directly to the auditor who is the sole practitioner. Additionally, in all our audit cases we’ve started looking at compliance with CPD requirements and found some gaps there as well which we are highlighting to ASIC.

    So, further to increasing our assurance reach to more auditors, this year we are visiting approximately 300 auditors who we have assessed as having an indicator of risk. These visits will be used to either gain an overall level of assurance that their processes and practices are appropriate or identify issues or gaps that need to be addressed.

    Our shared experience and mutual expectations

    In his speech to the IPA National Congress on 23 November 2017, Commissioner Chris Jordan outlined his view on transforming the tax and super experience in Australia and the ATO’s role. He emphasised the need for the ATO and the tax profession to remain contemporary and forward looking.

    Increasingly, for the ATO this means our approach to administrating the tax and super system must focus on the client experience; making things easier; paying attention to material matters; recognising time is money and ensuring our decisions are clearly understood. And of course, key for today as always, is that our activities are not an unnecessary drain on the productivity of our nation.

    Like the broader community, the SMSF sector has many expectations of it and of itself. Of course, business practices change and consequently so too, does the administration of our tax and super systems. We, like you, are seeing greater automation and digital business; increased use of data; and data sharing between taxpayers, third parties and tax authorities.

    The ATO is not driving these trends; they exist in both the private and public sectors, in businesses big and small and in our personal lives and those of our children. There are opportunities and challenges for all of us in dealing with technology, communication and the pace of change, testing us in how we adapt, evolve and work together.

    Conclusion

    A few take-aways may be useful:

    • firstly, SMSFs in the coming months should establish if their members are impacted by the new transfer balance cap or changes to the tax treatment of transition-to- retirement income streams and whether or not they wish to use the transitional CGT relief that is available
    • if SMSFs wish to avail themselves of the transitional CGT relief and are eligible to do so, they must elect to do this in the CGT schedule accompanying the fund’s 2017 SMSF annual return. Importantly, this election is irrevocable and must be made no later than the due date of the fund’s 2017 SMSF annual return which is now 30 June 2018 (as this date falls on a Saturday, returns can be submitted on the next business day). But to be clear, we simply require SMSFs to report whether they are electing to avail themselves of CGT relief and, depending on the method they use, the total amount of any deferred CGT that has arisen from applying the relief. There is no intention to incorporate CGT relief reporting into broader ATO systems
    • secondly, SMSFs with members who took advantage of the practical compliance approach to commutations before 1 July 2017 by requesting that any amount they were in excess of the $1.6 million transfer balance cap be commuted before 1 July must ensure relevant asset valuations are undertaken and the precise amounts of those commutations are calculated and recorded in the fund’s 2017 financial statements before the due date of their SMSF annual return
    • thirdly, all SMSFs must ensure that the assets in their fund are appropriately valued with relevant valuations supported by objective evidence and data. Asset valuations have been a key element of the SMSF regulatory and tax landscape for quite some time now. It’s relevant to note that the super reforms don’t introduce any new rules or special requirements in relation to SMSF asset valuations; the ATO’s SMSF asset valuation guidelines still apply and can be relied on
    • finally, for individuals who may have inadvertently exceeded the transfer balance cap by a greater amount, the sooner their fund undertakes up-to-date asset valuations that provide an accurate picture of the amount of any excess, the sooner the SMSF member can take action to remove the excess and stop the clock on the excess transfer balance tax liability that they will otherwise continue to accrue.

    Thank you.

    1 Who starts a self-managed superannuation fund and why? Australian Journal of Management, 2018, Forthcoming.

    Ron Bird, Doug Foster, Jack Gray, Adrian M Raftery, Susan Thorp, Dany Yeung, pp 15 -22

    2 This relief provides trustees of SMSFs transitional relief for unrealised capital gains on assets which would have been exempt from tax but for the introduction of the transfer balance cap and transition-to-retirement income stream (TRIS) reforms that began on 1 July 2017. The relief ensures that for certain assets that were supporting super income streams in retirement phase before 1 July 2017, a trustee can still receive a tax exemption on capital gains accrued but not realised.

    Last modified: 20 Feb 2018QC 54577