Forced to market

One of the less controversial recommendations out of Cooper Phase Three is the recommendation that SIS legislation relating to acquisitions and disposals between related parties should be amended so that where an underlying market exists, all acquisitions and disposal of assets between SMSFs and related parties must be conducted through that market.

This recommendation would, however, modify the existing rule under s66(2) SIS that allows the trustee to acquire a listed security directly from a related party where  the security was acquired at market value.

And when you think about it, unless the market is very thinly traded, it will be very unusual for a particular buyer and a particular seller - in this case the SMSF and related party - who otherwise want to deal with one another directly to in fact connect with one another in the market setting.

In a sense, the way the recommendation operates is to prohibit transfers of assets between SMSFs and related parties where a market exists, unless through some quirk of fate, the parties happen to be dealing with one another via the market.

The recommendation ends up imposing upon the parties the additional transaction costs - typically brokerage or commission - which they would not otherwise incur under the current arrangements

A rose by any other name

One of the more intriguing recommendations from the Phase Three preliminary report is that SMSFs be prevented from being established or renamed using a name which is the same or similar to an existing APRA-regulated fund.  This recommendation came out of an ASFA submission.

The concern is that it would be too easy to 'mirror' a well-established APRA regulated fund.  No evidence is offered to suggest that this is an existing problem, or even likely to be a problem in the future.  It's hard to imagine how this might be a problem.  There are sufficient facilities for those needing to ascertain whether a fund is regulated or not. An employer who contributed to such a fund without making appropriate checks would either be reckless, grossly negligent or deliberately fraudulent.

Sure, it's a simple matter to make the amendment, and it won't have any major impact on most SMSFs, but one has to ask whether this change - like the banning of collectables - fixes a problem which at worst is marginal.

In-house in the dog house

For most SMSFs, the in-house asset rules have operated virtually as an absolute prohibition against the fund holding in-house assets.  This is despite the limited scope for funds to hold 5% of their assets as in-house assets.

One of the difficulties with the 5% rule is that it required the trustee to remain vigilant.  If the value of the in-house asset moved significantly relative to the value of the other fund assets - and there were many instances of this during the GFC - the fund could be caught out unwittingly.

It proved to be the saviour for some pre-1999 unit trust arrangements, allowing a slight buffer where the trustee didn't get their calculations quite right.  Otherwise, the SMSF needed to have a considerable value such that 5% was significant enough to make a worthwhile investment.

So the recommendation that SMSFs wind their in-house assets down to nil will not have a major impact.

Interestingly, the same rules will not apply to APRA-regulated funds - typically funds with substantial balances, where 5% is enough for a worthwhile investment.

Leverage - don't let the horse bolt too far

History has a habit of repeating itself.  I remember in the mid-90's the threat that the in-house asset rules would be tightened if superannuation fund trustees exploited the loophole which allowed wholly owned unit trusts to be established in order to undertake borrowing which was otherwise prohibited within the superannuation fund itself.  Not surprisingly, the threat was ignored, and indeed the practice increased.  True to its word, the government changed the in-house asset rules, leaving us with the grandfathering provisions in Subdivision D Part 8.

The comments about leverage in the Phase Three - Preliminary Report have a familiar air.  The Panel makes it clear that they don't like leverage (or perhaps it is more correct to say they don't like direct leverage - as they do not seem concerned about managed investment schemes which effectively provide indirectly for leverage).  But they are happy to tolerate it for another 2 years, at which time a review should be held.  By that stage we will have had the instalment warrant rules for around 5 years.

I doubt that in 2 years' time we will have seen borrowing at a level which would cause it to become the 'significant focus of superannuation funds' that the Panel is concerned to avoid.  But if they do, it will be interesting to see what they propose to unwind it.  Will we be left with another set of grandfathering provisions.  I hope not.

Sorry Commissioner, I didn't realise I was going so fast

In an earlier blog I pointed out my concern with the ATO's treatment of the excess contribution tax issue.  The ATO has taken a very strict approach, arguing (quite correctly) that the current law provides no flexibility when it comes to imposing penalties for non-compliance.

The issue of the inflexibility of the penalty regime, not surprisingly, was taken up in the latest report from the Cooper Review.  Their recommendation is to adopt a "speeding ticket" model - that is, an administrative penalty could be imposed by the ATO on trustees (rather than as a tax on the fund) on a sliding scale, depending on the seriousness of the breach.  The trustee would then have a right to seek internal review by the ATO, or ultimately contest the penalty in court.

This approach was seen as preferable to the approach adopted in other areas under the Taxation Administration Act.

Either approach would certainly be better than the regime that presently exists.  And it does make sense to penalise the trustee rather than the fund (albeit that in many cases the member will ultimately lose out).  What will be interesting (assuming this recommendation is adopted) is to see how prescriptive the regulations will be, and how much discretion is given to the ATO.

Size matters - sometimes ...

There were 2 "size" related comments in Cooper's Phase Three - Preliminary Report.


The first was about membership size.  Currently capped at 4 - or more correctly, fewer than 5 - most submissions called for an increase in this otherwise supposedly arbitrary limit.  I say "supposedly", because it seems to me that the cap of 4 is not arbitrary, but instead reflects the trust law in each state which generally caps the number of individual trustees at a maximum of 4.  The panel's recommendation is for no change here, because of the "complications inherent in expanding the limit" - which appears to be an allusion to the state trust law requirements, as well as possibly the cumbersome nature of running a fund with a large board of trustees/directors.


The other size issue concerned fund asset size.  Sensibly, the board does not believe there should be a mandated minimum fund size.  Introducing an arbitrary limit would not have worked.  There are examples of where funds with otherwise low assets are justifiable - most notably insurance only arrangements.  And to set a minimum could have sent the wrong message - i.e. if you have (say) $200,000 in superannuation, then you ought to have an SMSF.


It comes down to whether the particular circumstances warrant having an SMSF.  Size is only one of many factors to be considered.

Over 60s win - again

I will let the dust settle on the Government's Response to the Henry Review.  But I will make the initial observation that the winners (again) at least from a superannuation perspective are those over 60.

Take this scenario: I am a superannuation fund member with an account balance of $750,000.  I want to maximise concessional contributions (through salary sacrifice arrangements).  Depending on my age after 1 July 2012, the outcomes are quite different:

• if I'm under 55 I am stuck with the $25,000 cap on concessional contributions.
• if I'm 55 to 59, I could retire to trigger a condition of release, and could then take out $250,001. I would be taxed on this amount.  I would then qualify for the higher $50,000 concessional contribution cap - but given that I had to cease gainful employment with the intention of not returning to work, I might have some difficulty convincing the ATO that I'd had a genuine change of heart.  I could then recontribute the net amount as a non-concessional (assuming the bring forward of the non-concessional caps was available).
• if I'm 60 to 64 I will need to cease gainful employment.  I could take $250,001 tax free, and recontribute it as a non-concessional (again assuming the bring forward was available).  I can immediately return to work and qualify for the $50,000 concessional contribution cap.
• if I'm 65 to 74, I simply need to satisfy work test - which shouldn't be difficult if I'm looking to make salary sacrifice contributions.  My major difficulty is that I can't access the bring forward provisions.

We still need to see the detail of this proposal - it's not clear at what point the member balance needs to be under $500,000, and whether this could be repeated in future years (assuming the non-concessional cap bring forward isn't completely exhausted).

But even as a one-off it may be worth considering.