DIY super funds: Rules are rules!

A recent case before the Administrative Appeals Tribunal (AAT) has again illustrated the need for self-managed super fund owners to be fully conversant with the laws that govern such funds. The case also highlights that unfortunate (even tragic) personal circumstances are not an excuse for not complying with the laws.

In the case, the AAT upheld a decision by the Tax Commissioner that a self-managed super fund be treated as a non-complying super fund.

The fund was created in April 2002 with just over $41,000 and its members included a husband, wife and their son, who were also the trustees of the fund. The Tribunal said the son had a drug addiction and took almost all of the money from the fund and spent it or gave it away. The Tribunal said the fund is now effectively a shell.

The Tribunal said that on alleged advice from a registered tax agent, the trustees concealed the true nature of the use and loss of this money for five years and that, while not entirely comfortable that it was the right thing to do, the husband and wife accepted this advice and followed it.

Following an audit, the Tax Commissioner in October 2009 issued a notice under s 40 of the SIS Act that the fund was a non-complying super fund for the 2002 income year because: (a) the trustees had contravened various provisions of that Act; and (b) the fund had not passed the test in s 42A(5) of the SIS Act (concerning contravention of regulatory provisions).

During the course of the audit interviews, the trustees advised that, among other matters:

the withdrawn money from the fund had been withdrawn by the son to pay for personal expenses;
the husband and wife had consented to the establishment of a fictitious loan account in the name of an alleged borrower of the funds, to cover up the withdrawal of funds by the son;
no loan was ever made to the alleged borrower;
the husband and wife had participated in the preparation of a letter requesting the release of just over $7,600 (the son’s funds) on financial hardship grounds, which was subsequently signed by the son;
the husband and wife had recorded in the minutes of a trustees meeting that the trustees had agreed to pay the son’s funds pursuant to the request; and
the son had, however, never made an application for release of money on financial hardship grounds and, notwithstanding the recording of payment of the son’s funds in the fund’s financial records, no moneys were ever paid to the son pursuant to any such request.

The Commissioner then issued the fund a notice that it was non-complying and also issued a notice of assessment for the year ended June 30, 2002, and notices of amended assessment for the years ended June 30, 2003 to 2007, inclusive.

The question before the Tribunal was whether the circumstances were sufficient to warrant exercising a discretion under the SIS Act that would allow the fund to be treated as a complying superannuation fund.

Although acknowledging the tragic circumstances in which the couple had lost almost all of their retirement savings in the fund, the AAT found the circumstances did not warrant exercising a discretion to treat the fund as a complying fund. In the present matter, the AAT said the breaches of the standards required of superannuation funds to be concessionally taxed were “particularly serious”. The AAT said that to exercise the discretion in the circumstances would not be consistent with the objects of the SIS Act. The AAT said that to do so would frustrate the wider objects of the Act “by relieving those responsible for superannuation funds of tax imposts where all of the assets of a superannuation fund are deployed inappropriately and lost as a consequence.” Accordingly, the Commissioner’s decision was affirmed.

The AAT observed that the husband and wife had lost their then retirement savings balances and would now need to begin the process of saving for their retirement again. It said the son accepted that he was responsible for the misappropriations from the fund and that he should be responsible for any tax imposed as a consequence. The AAT considered it unlikely that the husband and wife would recover money from the son in the near future, if at all.

This result in this case is a salutary reminder of the difficulties that can arise when the laws surrounding the operation of self-managed super funds are not complied with. The factual circumstances surrounding the outcome were indeed tragic, but the AAT was bound to apply the laws at hand and did so.

Terry Hayes is the senior tax writer at Thomson Reuters, a leading Australian provider of tax, accounting and legal information solutions .