Australia has around half a million self-managed super funds (SMSFs), or DIY funds, holding over $450 billion in assets. These funds are run by almost a million members. Self-managed super is no longer "small beer" – it is a major (and growing) part of the retirement savings industry.
But the ever-watchful regulator, the ATO, is, well, ever-watchful, and has some concerns about the sector.
According to ATO research, for the year ended June 30, 2010, around 34% of SMSFs reported they were making pension payments to some or all members. As funds in pension-paying phase attract tax exemptions, they naturally come in for some ATO attention.
It seems there are still a number of areas that are causing some problems, at least as far as the ATO is concerned, for SMSFs. I note some of these below.
One of those areas is the rather technically termed "exempt current pension income" (ECPI). Essentially this is income set aside by a fund to pay pensions. An SMSF can only claim an exemption from income tax for earnings and capital gains from assets that are supporting the payment of a pension to a member (i.e. ECPI) and does not include employer contributions or assessable employee contributions.
It is important to note that the ECPI tax exemption needs to be claimed in the SMSF annual return and SMSFs are not automatically entitled to the exemption. To be entitled to the exemption, fund trustees need to:
- ensure that all assets are re-valued to current market value before the payment of the pension;
- meet the requirements for calculating ECPI (e.g. if using what is known as the segregated method, certain assets must be set aside so that income from the assets can be identified as having the sole purpose of paying a pension);
- obtain an actuarial certificate before lodging an SMSF annual return as the ECPI claim may be disallowed if it is not present; and
- comply with the minimum payment standards.
SMSFs claiming tax losses is another area that attracts the ATO's attention. Over the past few years, the ATO has noticed a significant increase in tax losses carried forward. The ATO is apparently seeing a significant number of funds in partial pension phase offsetting other income against these losses. Offsetting income against tax losses is allowed under the law, but there are rules to observe. Fund trustees need to be aware that the amount of tax losses should be reduced by the amount of the net ECPI before offsetting against assessable income of the SMSF or carried forward to the next financial year.
Another area of confusion for SMSFs concerns non-arm's length income. This class of income is taxed at 45% and includes:
- income derived by the fund from a scheme (e.g. loan interest, rent) if the parties were not dealing with each other at arm's length in relation to the scheme;
- trust distributions made to super funds, other than because of holding a fixed entitlement to the distribution; and
- dividends or distributions paid by a private company to the fund, unless the amount is consistent with an arm's length dealing.
The ATO says it has found that some SMSFs are still not reporting this class of income at the correct label and are therefore not paying the correct amount of tax. The ATO has warned that taxpayers can expect to see more activity from it on that area, including litigation. Trustees should ensure that all SMSF transactions are at arm's length, and they should also remember that transactions can still be determined as not being at arm's length even if the other party is not related.
On the death of a fund trustee, the remaining trustees can either continue the fund or choose to wind up the fund, which involves the following:
- notifying the ATO within 28 days;
- ensuring the fund has no assets left;
- conducting a final audit of the fund; and
- completing your reporting responsibility.
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