Self Managed Superannuation Funds (SMSF) - Can an SMSF Carry on a Business? Part 2 of 2
Date: December 02, 2011
Authors: Jonathan Lim B.A., LL.B. (Hons)
In Part 1 of this article, we looked at the ATO’s general disapproval of the carrying on of businesses by self-managed superannuation funds (SMSFs).
This part of the article will look at the ATO’s apparent change in attitude to this issue. However we will analyse the real effect of the ATO’s new publication and warn about how little has really changed.
The new publication
In May 2010 the ATO released a publication on its website entitled Carrying on a business in a self-managed superannuation fund.
The publication states that “the fact that activities undertaken by an SMSF trustee are considered business activities for income tax purposes does not necessarily mean that the trustee contravenes the regulatory provisions.”
According to the ATO, the SMSF trustee will need to consider the following regulatory rules and whether they are breached:
- the sole purpose test;
- the investment strategy rule;
- the prohibition of lending to members or their relatives;
- the prohibition on related party acquisitions;
- the prohibition on borrowing; and
- the arm’s length rule.
In all these cases, the SMSF trustee must ensure that the SMSF’s business activities do not breach the rules.
Does the ATO still disapprove? Running an SMSF business now.
The ATO publication at first glance seems to promise a softening of the ATO’s former disapproval of SMSF businesses. However, a closer inspection raises serious doubts.
Assuming that any SMSF trustee avoids the obvious regulatory problems, for instance by having an investment strategy and conducting business strictly at arm’s length with unrelated parties, it would seem that there are still major barriers to running an SMSF business.
These problems are not really covered by the ATO, but they go to the heart of what it means to be running a business at all. The issues relate to the following two regulatory provisions:
- the sole purpose test; and
- the prohibition on borrowing.
The sole purpose test – a closer look
The ATO’s tone seems to indicate that an SMSF business does not necessarily breach the sole purpose test. The ATO gives several examples of actions that it would scrutinise for potential breaches of the test.
However, the sorts of examples that the ATO gives – relating to giving jobs to family members, for example, or letting family members use SMSF assets – are rather misleading. They seem to be rather tangential to the real issue at hand.
The essence of the sole purpose test is that it is a sole purpose test – not a dominant purpose or substantial purpose test. The SMSF must be run solely to provide retirement or death benefits to members (and/or one or two ancillary purposes that are not relevant).
The essence of a business is that, amongst other things, it requires a profit purpose. While this might align with the sole purpose test, it is less likely to do so than mere passive investment. Further, once an SMSF starts to engage in normal active business activities, including marketing, acquiring trading stock, purchasing premises and employing individuals, it seems that it would be in constant risk of breaching the sole purpose test.
What if the SMSF is obliged to take legal action against a supplier? Or if it dismisses an employee and gets sued for unfair dismissal? Or if its business expands rapidly and unexpectedly?
Even in this latest publication, the ATO indicates that the sole purpose test will continue to be applied “strictly” when an SMSF runs a business. Clearly there is still much to be wary about.
Prohibition on borrowing
The other major stumbling block is that of the prohibition on borrowing. If an SMSF engages in business, it is difficult to see how it could do so without breaching this prohibition. What if the SMSF business needs credit? What if other parties demand security?
Do not forget that the prohibition on borrowing applies even if recourse by the lender is limited to non-SMSF assets. The SMSF is simply prohibited from borrowing, at all.
Conclusion
It is clear from the above that, despite appearances, the ATO publication of May 2010 does not actually have much effect on the earlier ATO disapproval of SMSF businesses. If read carefully, the publication does not address the real objections to an SMSF running a business: the potential breach of the sole purpose test and the prohibition on borrowing simply by the nature of business activities.
If you have concerns about whether your SMSF can run a business, call LAC Lawyers and we can provide advice and assistance.
Tax Law - Annual compliance arrangements(Part 1)
Date: February 22, 2012
Author(s): Jonathan Lim B.A., LL.B. (Hons)
The ATO has always recognised the importance of large business entities to the general well-being of the Commonwealth. If nothing else, large business entities contribute no less than 60% of annual income tax revenue to the Commonwealth. Annual compliance arrangements (ACAs) are just one way amongst many for the ATO to engage with large businesses and ensure throughgoing compliance as far as possible.
Tax Law - Annual compliance arrangements(Part 2)
Date: February 22, 2012
Author(s): Jonathan Lim B.A., LL.B. (Hons)
Part 1 of this article set out the basics of what an annual compliance arrangement (ACA) is, and how to enter one. This part of the article will talk about what the arrangement involves during each year.
Tax Law - Superannuation - Trust Deeds - Excess Contributions Tax
Date: February 21, 2012
Author(s): Frank Egan B.A., LL.B., A.C.L.A., F.T.I.A. (Notary)
Excess contributions tax has become a hot potato over the last few years. As a result the ATO introduced TA2010/2 striking down clauses in self –managed superannuation fund trust deeds designed to circumvent the imposition of excess contributions tax.
Tax Law - Compliance Programme 2011 - 2012 Fiscal Year (Part 3)
Date: February 20, 2012
Author(s): Frank Egan B.A., LL.B., A.C.L.A., F.T.I.A. (Notary)
The collection and recovery of tax debts has proved challenging for the ATO in the last financial year. Declining economic conditions coupled with natural disasters have made tax and superannuation compliance hard for everyone. That said, some taxpayers have resorted to cheating the taxation system but as the year progressed, the ATO was able to address some of these problems.
Tax Law - Compliance Programme 2011-2012 Fiscal Year(Part 1)
Date: February 20, 2012
Author(s): Frank Egan B.A., LL.B., A.C.L.A., F.T.I.A. (Notary)
The collection and recovery of tax debts has proved challenging for the ATO in the last financial year. Declining economic conditions coupled with natural disasters have made tax and superannuation compliance hard for everyone. That said, some taxpayers have resorted to cheating the taxation system but as the year progressed, the ATO was able to address some of these problems.
Tax Law - Compliance Programme 2011-2012 Fiscal Year(Part 2)
Date: February 20, 2012
Author(s): Frank Egan B.A., LL.B., A.C.L.A., F.T.I.A. (Notary)
The collection and recovery of tax debts has proved challenging for the ATO in the last financial year. Declining economic conditions coupled with natural disasters have made tax and superannuation compliance hard for everyone. That said, some taxpayers have resorted to cheating the taxation system but as the year progressed, the ATO was able to address some of these problems.
Tax Law - Compliance Programme 2011-2012 Fiscal Year(Part 4)
Date: February 20, 2012
Author(s): Frank Egan B.A., LL.B., A.C.L.A., F.T.I.A. (Notary)
The collection and recovery of tax debts has proved challenging for the ATO in the last financial year. Declining economic conditions coupled with natural disasters have made tax and superannuation compliance hard for everyone. That said, some taxpayers have resorted to cheating the taxation system but as the year progressed, the ATO was able to address some of these problems.
Self Managed Superannuation Funds (SMSF) - Borrowing a New Amount to Repair an SMSF Instalment Warrant Asset
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
An issue raised before the ATO very recently is whether a self-managed superannuation fund (SMSF) is permitted to borrow a new amount to repair an instalment warrant asset it already holds. As we have discussed in previous articles, an SMSF is generally prohibited from borrowing money. However, an exception is available for limited recourse borrowing arrangements (better known as instalment warrants) in which the SMSF borrows money to pay for an asset that is held in a property trust and only transferred to the SMSF when the amount is paid off.
Self Managed Superannuation Funds (SMSF) - Can an SMSF Carry on a Business? Part 1 of 2
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
An old question relating to self-managed superannuation funds (SMSFs) is whether they are permitted to carry on a business. This is the first in our two part article on the ATO’s attitude to such activities, which is ambiguous and contains many pitfalls for the unwary.
Self Managed Superannuation Funds (SMSF) - In-specie Payments by an SMSF
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
It has always been accepted that a self-managed superannuation fund (SMSF) can make lump sum payments in specie. What is not so clear is what happens when a lump sum is paid as a commutation of part of a superannuation income stream. This issue, which has sometimes arisen in the past, has been brought recently before the ATO.
Self Managed Superannuation Funds (SMSF) - Insurance and SMSFs
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
In our article entitled SMSFs and personal injury liability we discussed the idea of a self-managed superannuation fund (SMSF) obtaining public liability insurance to protect itself against personal injury claims. In this article, we will discuss forms of insurance that the SMSF can obtain over its members. This can include life insurance, disability insurance and trauma insurance. The effect of such insurance upon the SMSF has been the subject of recent debate.
Self Managed Superannuation Funds (SMSF) - Partial Lease by an SMSF of an In-house Asset
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
It is well-known that an exception to the restriction on in-house assets held by a self-managed superannuation fund (SMSF) is the real property exception, under which the property is leased to a member or related entity for business purposes. One issue that has arisen recently is what happens when the in-house asset is only partially leased.
Self Managed Superannuation Funds (SMSF) - SMSFs and ESS interests
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
An employee share scheme (ESS) is a scheme under which an employer provides shares or options (ESS interests) to employees at a discount. Unfortunately, the ATO has noted many instances of employees nominating their self-managed superannuation fund (SMSF) as the acquirer of ESS interests under an ESS. While employees may generally nominate another party as the acquirer of ESS interests, nominating the SMSF gives rise to serious issues, as we shall see.
Self Managed Superannuation Funds (SMSF) - SMSFs and Personal Injury Liability
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
It may seem obvious, but self-managed superannuation funds (SMSFs) can be liable in their own right to personal injury litigation. Liability for personal injury caused by faults in property will normally fall under the tort of negligence. Under tort law, property owners have a common law duty of care to all individuals on their premises. If the required standard of care is not met, and injury occurs to the tortfeasor in a reasonably foreseeable manner, then the property owner is liable for negligence.
Self Managed Superannuation Funds (SMSF) - SMSFs and Rectifying In-house Asset Breaches
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
A non-complying self-managed superannuation fund (SMSF) is open to all sorts of penalties. However, there is often some leeway for breaches, provided action is taken quickly. This article deals with the rectification of a breach of the in-house asset rule.
Self Managed Superannuation Funds (SMSF) - SMSFs and Tax Exemptions on Pension Assets
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
Once a self-managed superannuation fund begins to pay income stream benefits (ie a pension) to any of its members, it can begin to claim a tax exemption on income earned on assets it holds that are being used to produce the pension. This article deals with the nature of this exemption and the misunderstandings that sometimes arise.
Self Managed Superannuation Funds (SMSF) - Stepchildren and SMSF Death Benefits
Date: December 02, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
The rules applicable to self-managed superannuation funds have restrictions on who can receive cashed out member benefits. One rule is that member benefits may be cashed in favour of a member’s dependants, if the member dies. One issue that has been raised recently is whether the ATO would accept a stepchild as the dependant of its step parent if its natural parent dies first or the pair divorce. This is apparently an issue that has already come up quite often in Australia.
Employment Law - Redundancy - Unfair Dismissal - Should Employers Offer a Lower Paid Position to Employees?
Date: November 29, 2011
Author(s): Patrick Mulligan B.A., LL.B.
The purpose of this article is to review Margolina v Jenny Craig Weight Loss Centres Pty Ltd [2011]FWA 5215. This case addressed issues of whether it would have been reasonable to redeploy the employee into a lower paying position when she was made redundant. She argued that it was not a genuine redundancy as the employer never offered her alternative employment in a lower paid position.
Self Managed Superannuation Funds (SMSF) - Excess Contributions Tax – Release Authority
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
If an individual makes contributions to his or her self-managed superannuation fund (SMSF) and these contributions exceed the caps relevant to that type of contribution, then the individual may be liable to excess contributions tax (ECT).
Self Managed Superannuation Funds (SMSF) - Income Streams – When They Start
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
When a member of a self-managed superannuation fund (SMSF) satisfies a condition of release, he or she may be eligible for an income stream benefit from the SMSF. When a member is receiving an income stream of this sort, it can be highly relevant for tax purposes (both for the member and the SMSF) to determine exactly when the income stream commences and ceases. The ATO has just released draft guidelines on how to determine these times (Draft Taxation Ruling TR 2011/D3).
Self Managed Superannuation Funds (SMSF) - Losses on Disposal of Shares
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
A self-managed superannuation fund (SMSF) is generally discouraged from engaging in business. Although the ATO and Parliament have failed to make any binding statements on this point, it is fairly clear that they expect this point to be followed. A related issue that has clearly been vexing the Government and the ATO in recent times has been that of the treatment of SMSF share sale losses.
Self Managed Superannuation Funds (SMSF) - New Guidance for SMSF Instalment Warrants
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
New draft ATO guidance is now available for the use of instalment warrants by self-managed superannuation funds. The instalment warrant system (officially “limited recourse borrowing arrangements”) permits SMSFs to borrow money, under restricted circumstances, to acquire an asset. However, many SMSFs attempting, or claiming to attempt, to use the instalment warrant system honestly, have been in breach of the rules, hence the new guidelines (Draft SMSF Ruling SMSFR 2011/D1, released September 2011).
Self Managed Superannuation Funds (SMSF) - Recording SMSF Contributions
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
The Commissioner of Taxation has taken advantage of two recent cases before the Administrative Appeals Tribunal (AAT) to emphasise the importance of proper record-keeping by self-managed superannuation funds (SMSFs). He also emphasized the duty tax agents have to ensure that client SMSFs are not financially disadvantaged.
Self Managed Superannuation Funds (SMSF) - SMSF Auditors
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
Every self-managed superannuation fund (SMSF) is required to arrange an annual audit of its accounts, statements and compliance. Audits must be carried out by an “approved auditor”. The SMSF trustee appoints an approved auditor every year and must provide the auditor with all documents needed for the audit. All audits must be in writing and highlight any important issues that may arise.
Self Managed Superannuation Funds (SMSF) - SMSFs and Non Arm's Length Income
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
A self-managed superannuation fund (SMSF) is concessionally taxed at a very low rate. There is naturally a temptation in some quarters to exploit this fact by using an SMSF to help split income. However, the ATO has recently warned that the widespread abuse of an SMSF in this manner, whether the members believe it to be legal or not, is not in accordance with the law.
Self Managed Superannuation Funds (SMSF) - Winding Up an SMSF
Date: November 28, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
There comes a time in many instances when a self-managed superannuation fund (SMSF) must be wound up. Yet the Commissioner has recently warned that winding up procedures are frequently not being followed by SMSF trustees. In essence, the task of the SMSF trustee when winding up the SMSF is: to deal with all of the SMSF’s assets so that none remain; and to complete all administrative obligations.
Self Managed Superannuation Funds (SMSF) - Early Release Schemes
Date: November 25, 2011
Author(s): Jonathan Lim B.A., LL.B. (Hons)
For several years now, the Commissioner of Taxation has been making public his disapproval of schemes that illegally promise the early release of self-managed superannuation fund (SMSF) benefits. These types of scheme apparently have not disappeared, for the Commissioner has once more targeted them in his 2011-12 compliance program for SMSFs. Indeed, this year it would be wise for all SMSF trustees to familiarise themselves with the nature of this common and potentially disastrous form of illegal scheme.
Self Managed Superannuation Funds (SMSF) - Non-compliance with SMSF Rules
Date: March 08, 2011
Author(s): LAC Lawyers
In recent times, the ATO have expressed a keenness to ensure the SMSF industry is compliant with all the laws that govern it. A non-compliant SMSF can be penalized by the ATO by way of a loss of entitlement to concessional rates of tax or disqualification of a trustee.
Testamentary Trusts - Excepted Assessible Income or Excepted Trust Income
Date: January 12, 2011
Author(s): Michael Pickering B.A., LL.B. (Hons.), LL.M., M. A.
Another exception to the general rule introduced by Division 6AA is whether the income is "excepted assessable income" or "excepted trust income." In other words, not all income is affected by the new rules in division 6AA. Excepted accessible income or excepted trust income will be assessed at ordinary marginal tax rates.
Testamentary Trusts - Taxation of Testamentary Trusts
Date: January 12, 2011
Author(s): Michael Pickering B.A., LL.B. (Hons.), LL.M., M. A.
Trustees will need to pay particular attention to section 102AG(2)(a)(i) of ITTA 1936. This section controls income distributed to minors from testamentary trusts. Trustees should insure that the will incorporating the testamentary trust is properly drafted so that the testamentary trust has the characteristics of the discretionary trust structure.
Testamentary Trusts - What Happens When A Beneficiary Is A Minor
Date: January 12, 2011
Author(s): Michael Pickering B.A., LL.B. (Hons.), LL.M., M. A.
Testamentary trusts are an effective vehicle for splitting business income. Problems arise, however if there are beneficiaries who are minors (i.e. under 18 years old).
Back to Basics - Self Managed Superannuation Funds - Documentation
Date: January 11, 2011
Author(s): Tony Anamourlis B.A., LL.B., MTaxLaw, GradDipLegPrac, SJD Candidate (La Trobe); ATIA
In essence, what the law states: if the correct “borrowing structure” is in place, a super fund will be exempted from borrowing restrictions. Which means super funds can borrow to buy an investment property, as long as the structure suggested in Sec 67 (4A) of SIS Act is in place.
Back to Basics - Self Managed Superannuation Funds - Legal Issues
Date: January 11, 2011
Author(s): Tony Anamourlis B.A., LL.B., MTaxLaw, GradDipLegPrac, SJD Candidate (La Trobe); ATIA
The Trust deed of the existing SMSF should be reviewed to ensure that the borrowing and investment by way of an instalment warrant is permitted under the governing rules.
Back to Basics - Self Managed Superannuation Funds - Loans
Date: January 11, 2011
Author(s): Tony Anamourlis B.A., LL.B., MTaxLaw, GradDipLegPrac, SJD Candidate (La Trobe); ATIA
Borrowing in an SMSF can be from two sources; internal lender or external lender.... read on to find out about SMSFs
Can my self managed superannuation fund (SMSF) buy property?
Date: September 01, 2010
Author(s): LAC Lawyers
In the past, Australian law with respect to Superannuation did not permit a SMSF to borrow money, or to mortgage the fund’s existing property BUT...
Estate Planning - Self Managed Super Funds
Date: July 12, 2010
Author(s): LAC Lawyers
Retirement is not at the forefront of most working people’s lives but it should be. As Australia’ population is aging superannuation, and saving for retirement is becoming increasingly important.