Self-managed super funds: strict rules apply

The rules governing self-managed super funds (SMSFs) are many and complex. With the huge growth in such funds, the regulator – the Tax Office – is always close at hand.

This is not a new theme in my SmartCompany columns, but it seems I’m destined to write about an increasing number of cases before the courts and tribunals dealing with breaches of the rules. Self-managed super funds, or DIY funds as they also known, are a great idea, but those who set up and operate them have to abide by the laws that govern them. That unfortunately does not always happen.

A recent decision of the Administrative Appeals Tribunal (AAT) illustrates that, despite seemingly reasonable and logical defences put up by a SMSF auditor, the rules governing such funds, and the auditors of those funds, are strict, and will be applied as such. The case contains some useful and important messages.

In the case, the AAT affirmed the Tax Commissioner’s decision to refuse to exercise his discretion to revoke the disqualification of a person as a SMSF auditor.

The applicant was an approved auditor of various SMSFs. The Commissioner audited a super fund (of which the applicant was a director and the approved auditor) in respect of the income years ended 30 June 2004 to 30 June 2007, inclusive. He also audited two other funds of which the applicant was the approved auditor.

The auditor had been a “registered company auditor” for 25 years, a member of CPA Australia Ltd for 27 years, and a registered tax agent for 37 years.

The Commissioner identified a number of contraventions of the Superannuation Industry (Supervision) Act 1993 (SIS Act) by the trustees of two of the super funds which the applicant, as the auditor of those funds, had failed to notify the trustees about and report to the ATO. The breaches identified by the ATO included:

• breach of the in-house asset rule, ie in-house assets greater than 5%;
• lending $11,000 to a fund member, ie the auditor’s wife;
• providing indirect financial assistance to a member;
• non-arm’s length lease of fund assets (eg jewellery, paintings and antiques valued at just over $87,000) to a fund member and a related entity;
• one of the funds did not meet the definition of “self-managed superannuation fund”;
• the Commissioner also found the applicant’s audit file for one of the funds: (i) did not contain an audit plan; (ii) contained a limited audit checklist which did not consider all relevant financial and SIS Act compliance matters; (iii) did not contain any supporting documents demonstrating the applicant had verified the existence, ownership, valuation or use of the assets of the fund; and (iv) did not contain any supporting documents demonstrating the income or expenses of the fund;

the Commissioner said the applicant issued an unqualified audit report for the fund for the 2008 year, when he should have issued a qualified report.

The Commissioner disqualified the applicant as an approved auditor based on his audit of the above fund and two other funds, and also based on the Commissioner’s conclusion that the applicant had not performed adequately and properly the duties of an approved auditor under the SIS Act and Australian Accounting Standards. He later confirmed that disqualification order. The applicant sought review before the AAT.

With respect to the contraventions of the SIS Act by the trustees of one of the super funds, the applicant submitted:

from its inception in November 1986, the fund’s investments included “in-house assets” as defined. The law in relation to “in-house assets” was altered in August 1999. However, self-managed super funds which were complying funds at that time were exempted from the impact of that legislative change, provided there was only a limited increase of that type of asset within the fund. To ensure the fund remained compliant, given the legislation was not retrospective, the applicant said the assets of the fund were quarantined;

• the technical non-compliance by the fund (in breaching the in-house asset rule) was not “material” because there was no impact on the retirement benefits of the fund’s members, and in the relevant audited 2008 financial year, the fund’s income was 81 cents and cash expenses were $12;
• the fund was well-managed financially as it has had capital growth exceeding 10% per annum over the past 10 years;
• the Commissioner was satisfied that the breach relating to the use of fund assets by the members could be, and was, corrected.

In a purely logical sense, this may have been considered quite reasonable – akin to the “nobody got hurt” argument.

However, the tribunal said the applicant acknowledged that he did not identify the breaches of the SIS Act by the trustees of the fund during the course of his audit of that fund. The applicant stated that he did not view the use of jewellery by a fund member and paintings and antiques by a related entity as a contravention of the SIS Act. Consequently, he issued an unqualified audit report in relation to the fund. The applicant also confirmed that he did not perform any testing of, and had no audit plan or checklist in place for, his audit of the fund.

In essence, the applicant contended that:

for the years in question, the law in relation to the conduct of approved auditors of self-managed super funds was unclear and unsettled;

the contraventions by two of the funds were not reportable to the ATO under current guidelines as they did not total more than $30,000;

the contraventions of the SIS Act were not material;

the breaches were technical rather than actual;

no retirement savings were put at risk;

every contravention of the SIS Act by the trustees of the funds was capable of being and was remedied by the trustees of the funds; and

the ATO’s disqualification decision was unfair and unreasonable.

After a lengthy examination of the relevant law, and consideration of the submissions by both sides, the tribunal concluded that, by failing to report the trustee’s contraventions of the SIS Act, the applicant did not fulfil his statutory duties under that Act, and by failing to identify the contraventions to begin with (during the performance of his audit of the funds), the applicant breached the standards set by CPA Australia Ltd of which he had been a member for 27 years.

Despite the applicant’s contentions, the tribunal said that by failing to adequately and properly perform his duties as the auditor of the super funds, the applicant had failed to protect the members of those funds, regardless of the fact that they were family members, and it followed that he “failed to protect the integrity of the superannuation system generally”.

This is perhaps something that can be easily overlooked by those involved with SMSFs, partly because they are so close to the fund itself and its activities.

The tribunal said it was therefore not satisfied that the applicant was: (i) likely to carry out and perform adequately and properly his duties of an auditor under the SIS Act and the relevant regulations in the future; and (ii) otherwise a fit and proper person to be an approved auditor for the purposes of SIS Act. Consequently, it considered the Tax Commissioner’s decision not to revoke the disqualification order was correct.

Running a self-managed super fund is an important and serious job. It’s not just the return on the assets of the fund that is important, but also ensuring it complies with the relevant laws. That’s not something that should be taken lightly.

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

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