'Fit and proper' to be an SMSF Trustee? A lesson in what not to do

The recent Administrative Appeals Tribunal decision in Hart and Hart v. Commissioner of Taxation [2018] AATA 1267 upheld the Commissioner of Taxation's decision to disqualify an SMSF trustee. This is the first decision of a court or tribunal to test the Commissioner of Taxation's decision as to whether a trustee is 'fit and proper'. This article outlines the importance of complying with SMSF trustee duties and provides a lesson in 'what not to do'.

 

Facts

Mr Hart and his then spouse, Mrs Hart, were members and trustees of the Hart Superannuation Fund, established in October 2003 (SMSF). On 1 April 2007, their daughter, Ms Kathleen Hart, became a member and trustee of the SMSF.

The SMSF's tax agent and auditor lodged with the ATO an Auditor Contravention Report (ACR) in respect of the 2012 income year. The contravention related to the property located at 160 Ruffy Road (Ruffy Road Property), which was purportedly acquired by the SMSF in the 2012 income year. The auditor advised that the Ruffy Road Property was not in the name of the SMSF's trustees, as required by superannuation law.

As a consequence of the ACR, the ATO advised the SMSF that it had been selected for an audit regarding the contravention of s 52(2)(d) of the SIS Act.[1] The audit revealed a series of breaches by Mr Hart in relation to the SMSF between 2011 and 2014.

On 10 September 2015, the ATO, pursuant to its powers under s 126A of the SIS Act, informed Mr Hart that it had decided to disqualify him from acting as a trustee or responsible officer of the SMSF or any other superannuation entity.[2]

On 5 October 2015, Mr Hart applied for a review of this decision by the ATO. The Commissioner refused to revoke or vary the decision under s 126A(3) of the SIS Act to disqualify Mr Hart. Mr Hart then applied to the Administrative Appeals Tribunal (AAT) for review of the decision by the Commissioner.

Key findings

The AAT affirmed the Commissioner's decision. This finding was due to Mr Hart's numerous contraventions of superannuation law which the AAT described as 'falling significantly below the standard one would expect from a competent trustee acting for a SMSF'. In addition, the AAT found that he was not a fit and proper person to be an SMSF trustee making his 'disqualification by the Commissioner...plainly warranted'

Mr Hart's breaches are summarised in the table annexed.

Duties and obligations of an SMSF Trustee

Trustees must act according to:

  • the Fund's trust deed;
  • Superannuation Law[3]; and
  • other general rules imposed under tax law, corporations law and trust law.

The AAT found that both the number and seriousness of Mr Hart's contraventions of the SIS Act together with the fact that Mr Hart was not a fit and proper person to act as a trustee, investment manager or custodian - justified Mr Hart being disqualified from his position as trustee[4].

An explanation of the expression 'fit and proper person' was expressed by the High Court of Australia in Australian Broadcasting Tribunal v Bond (1990) 170 CLR 321. The High Court in this case stated that the meaning of 'fit and proper person' takes its meaning from its 'context, from the activities in which the person is or will be engaged and the ends to be served by those activities.' As such, the meaning of 'fit and proper' cannot be 'entirely divorced from the conduct of the person who is or will be engaging in those activities'.

In addition to the skills and judgment required of a person who acts as a trustee of a superannuation fund, the covenants given by trustees in their respective trust deeds state clearly the duties imposed on a trustee if that person is to be regarded as fit and proper to act in that capacity. The tribunal found that Mr Hart's conduct disclosed glaring deficiencies or, possibly, a wanton disregard of the duties which must be met in his capacity as trustee of the SMSF.

The importance of getting everything right

The case demonstrates how a single breach which prompts a qualified auditor or Auditor Contravention Report — can lead to a full ATO audit, which in turn can unearth all possible compliance issues in a fund.

In this case the main breaches were obvious and the remaining breaches voluminous.

For example:

  • SMSF Assets — acquisition of real property from fund members
    • The Ruffy Road Property transaction was the trigger for the ATO and led the Commissioner to conduct an audit of the SMSF. The Ruffy Road Property was a hobby farm of Mr and Mrs Hart, and together they were joint proprietors of the property. SMSFs cannot acquire non-business property from members, which means the Ruffy Road Property was not an eligible asset acquisition for the SMSF.
    • Despite the purported transfer of the Ruffy Road Property, there was no change of title to include the name of the third trustee of the SMSF at that time, Kathleen Hart. Nor did the trustees ensure the title was clear of all encumbrances prior to making the property an asset of the SMSF.
  • Payments made out of SMSF funds
    • Multiple payments made by the SMSF were deemed to be unauthorised payments to members and other related parties.
    • One purported investment was of $100,000 payable to the Philippines Company of which Mr and Mrs Hart were two of the five directors. Mr Hart said the investment was made to obtain an interest in the Philippines Company and was made with the consent of the trustees of the fund. Mrs Hart denies having any knowledge of this transfer out of the SMSF until after her separation from Mr Hart. The tribunal found that the shares acquired in the Philippines Company were held by Mr and Mrs Hart in their personal capacities, not as assets of the SMSF.
    • These are just two of a number of payments made from SMSF funds found to be in breach of the superannuation law and the fund's deed.

Conclusion

The decision to set up an SMSF should not be taken lightly. Individuals and advisors should consider whether the proposed members, and therefore trustees of the SMSF, have the time and skills to make decisions for the SMSF and to ensure they are 'fit and proper' to act as a trustee.

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Annexure 1

Action Breach SIS (Act & Regulation) Provision
Failure to lodge annual returns of the SMSF on time — 2013-2016 inclusive Trustee required to lodge returns s 35D
Failure to meet a condition of release when making cash payments out of the SMSF to the members Payment of benefits with no condition of release Rule 6.18
Multiple cash payments from the SMSF to members and relatives Providing loans or financial assistance to members/relatives s 65
Acquisition of shares in a related company, Hart to Hart Fabrications (Philippines) Inc (Philippines Company) Prohibited acquisition at less than market value and/or at greater than the exemption for in-house assets levels s 66, s 71 or s 109
Provision of rent free lease to related party Providing loans or financial assistance to members/relatives s 65
Blurred lines between asset ownership, SMSF cash used for personal purposes Failed to keep money or other assets separate s 52(2)(d) and rule 4.09A
Transfer of property owned jointly by 2 members/trustees to SMSF. Property was not business real property or listed security Intentional acquisition of an asset from a related party s 66
Title of the property included a mortgage Charge over fund assets rule 13.14
Transfer of the property for less than its market value Market value not used for transaction s 109
SMSF ceased to meet the definition of a self-managed super fund in late 2015 because there were 5 individual members Ceasing to be a SMSF as SMSF must have fewer than 5 members s 17A(1)(a)
Property transferred but title unchanged Asset of the SMSF not in the name of the trustee s 31(1) and rule 4.09A
Transfer of cash from SMSF to build shed on property Providing loans or financial assistance to members/relatives s 65
Invalid forfeiture of benefits by Mrs Hart Not valid Trust Deed provisions
All of the above Sole Purpose Test s 62

[1] Section 52(2)(d) of the SIS Act requires, amongst other provisions, that trustees are to keep money and other assets of an entity separate from any money or assets held by the trustee personally.

[2] Disqualification under s 126A of the SIS Act comes into effect from the date on which notice of the disqualification is given and will continue to operate until the disqualified individual instigates necessary dealings to have the disqualification revoked.

[3] Superannuation Industry (Supervision) Act 1993 (Cth) and Superannuation Industry (Supervision) Regulations 1994 (Cth).

[4] Disqualification orders are made to protect the public interest. They also act as a personal deterrent and general deterrent to others involved in the particular industry concerned.