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Regulation of SMSFs- report by Australian National Audit Office

The Australian National Audit Office?s recent audit of the ATO's regulation of SMSFs details a surprising lack of regulation since 1999 — the year in which 'excluded funds' were replaced with 'self managed superannuation funds'. The report also includes some of the ATO?s plans — including to more actively monitor the timeliness of individual SMSF annual reporting. Julian Smith and Leonie Heaton

Background to the Report - Objectives and Scope

In 1999, regulation of 189,000 SMSFs passed from the Australian Prudential Regulatory Authority (APRA) to the ATO.

At that time, SMSFs were growing at the rate of 470 per week and were subjected to relatively low intensity regulation by APRA.

The number of SMSFs has continued to grow steadily. As at 30 June 2006, the ATO was responsible for monitoring over 320,000 SMSFs for compliance with the Superannuation Industry (Supervision) Act 1993 (Cth) (SISA) and the Superannuation Industry (Supervision) Regulations 1994 (Cth).

The Australian Taxation Office's Approach to Regulating and Registering Self Managed Superannuation Funds (Report) is the first of two reports by the Australian National Audit Office (ANAO) which will gauge the effectiveness of the ATO's regulation of SMSFs. The Report examined:

  • the environment in which SMSFs operate;
  • the ATO's governance of its SMSF regulatory role; and
  • the systems, processes and controls the ATO uses to register SMSFs, to ensure compliance and to enforce lodgement of fund returns.

The report is less than flattering, and will surprise any practitioners who have assumed a robust level of SMSF supervision.

SMSFs - the environment

From June 2001 to June 2006, the level of superannuation investment in Australia grew by 76% to $913.6 billion. Approximately 25%, or $209.9 billion, was invested in SMSFs.

Other interesting trends identified over the five years were:

  • The number of SMSFs increased by 52% (109,000 funds);
  • The total amount invested in SMSF assets increased by 169% (or $132 billion);
  • Approximately 35% of all SMSFs have less than $200,000 (the sum ASIC considers a guide to the minimum sum to make a fund cost-effective); and
  • The average amount invested has increased by 77% (from $370,000 to $656,000).

The ATO predicts that the introduction of 'Simpler Super' will increase the attractiveness of super, resulting in a continuing need for the ATO to focus its attention on compliance with the SISA.

Does the ATO exercise prudential oversight?

The number of SMSFs, and the amount of money invested in them, is good cause for proper regulatory oversight of SMSFs.

Even though there are a relatively small number of SMSF members, they received an estimated $3.95 billion dollars in tax concessions in the 2005/6 year. One would expect this foregone revenue would elicit strong governance by the ATO — but the Report found the reality is the reverse.

The ATO clarified its prudential role under the SISA after taking on the regulatory role. It concluded that, unlike APRA, the ATO has no prudential role in reviewing or commenting on specific investment strategies prepared by SMSF trustees, and consequently makes no attempt to do so. Basically, it is not the ATO's business.

This practice is consistent with the government's original policy intent, which specified that "whilst SMSFs are a key vehicle in the accumulation of retirement savings, they do not require onerous prudential supervision as members should be able to protect their own interests."

The ATO advised ANAO that it is in the process of developing a new publication that will clarify its role and responsibilities — or lack of them? — for the public.

Does the ATO scrutinise SMSF registration?

The Report says that the ATO does not effectively scrutinise SMSFs.

For an SMSF to receive tax concessions, it must lodge a registration form within 60 days of being established, and be issued a notice of compliance.

The ANAO analysed ATO registration data for compliance with the SISA and looked at the:

  • Number of members in each SMSF;
  • Number of SMSFs with zero balances; and
  • Number of SMSFs not lodging their registration forms within 60 days as required.

Number of members

A fundamental requirement of an SMSF under SISA is to have between one and four members. The Report found that in August 2006, approximately 6,900 funds had either zero or greater than four members and were therefore non-compliant.

Although a small but significant percentage of the total number of funds, the ANAO was concerned that the ATO has no system for determining whether or not this was a result of incorrect registering, or the funds became non-compliant after registration.

Zero asset balances

The asset balances of SMSFs under the SISA must initially be at least $1.

There have been 40,000 cases since 1999 of SMSFs reporting zero balances. Of these, 11,000 reported a zero balance for more than one year. The ANAO recognized this could be unreported wind-ups of funds, but equally could have been due to faulty registrations of arrangements that are not SMSFs.

Sixty-day rule

Funds must choose to be regulated by the ATO within 60 days of being established.1 Since 1999/2000, 23% of SMSFs did not lodge their choice within 60 days (although there has been an increase in compliance in recent times).

In an interesting insight into regulatory priorities, the ATO advised ANAO that it has only sought to penalize funds that did not lodge within 365 days of being established. The reason being that its compliance resources are better used on other activities. At the time of the audit, the ATO did not monitor the 60-day rule and did not systematically take action against funds that do not meet their SISA obligations.

Is an SMSF issued with a compliance notice compliant?

There is no certainty as to whether an SMSF issued with a compliance notice is compliant. The ATO does not analyse all of the information contained on the registration form at the time it is lodged. It relies on trustees for the honesty and accuracy of information.

Since 2004, the ATO has used the following information on registration forms for intelligence and to develop risk profiles at an industry-wide level:

  • numbers of trustees with multiple SMSFs;
  • analysis of taxable income of SMSFs;
  • age of trustees establishing SMSFs;
  • number of funds started and wound up within 12 months; and
  • new SMSFs that are linked to high-risk tax agents.

However the ATO says that the earliest it can use this intelligence in compliance activity is 18 months after the fund is registered.

The ATO does not use this information to assess whether or not to register the fund and issue the compliance notice. The ANAO recognized that the ATO must use a risk-based approach and cannot examine all new fund returns, but considered "the Tax Office's approach does not provide a high level of assurance at the time of registration that funds are complying with their SISA requirements."

Once the notice of compliance is issued, few SMSFs are reviewed to determine actual or continuing compliance.

Timeliness of an SMSF's annual return

A further startling statistic relates to lodgement of fund returns. In the 2004/5 year, approximately 30% of SMSFs did not lodge their income tax and regulatory return on time. Approximately 8% of SMSFs have never lodged a return.

The ATO advised it is introducing a lodgement program in 2007/8 that aims to increase compliance from 70% to 94% within 6 months of the due date.


While acknowledging the ATOs introduction of new regulatory measures (including streamlined returns, new trustee declarations, new administrative penalties and the increase in the supervisory levy) the Report states such initiatives do not go far enough.

The ANAO made six recommendations which were all accepted by the ATO. In summary

  1. The ATO is to identify risks to the operation of SMSFs in a more timely fashion by more effectively monitoring information and intelligence it gathers;
  2. The ATO is to monitor its cost recovery to ensure those recoveries are adequate to undertake its regulatory functions;
  3. The ATO is to improve the quality of ATO planning, risk management and reporting in relation to SMSFs by reviewing SMSF registrations;
  4. The ATO is to provide more accurate SMSF asset information by evaluating active and 'inactive' funds and reconciling asset estimates with actual data;
  5. The ATO is to use intelligence from the registration process to more accurately assess compliance, and develop and implement a risk-based methodology to monitor compliance; and
  6. The ATO is to consult with APRA and ASIC to assess the benefits of a central register of persons who have been disqualified to act as super fund trustees.

How these recommendations will be implemented remains to be seen. But the move towards more intensive regulation of SMSFs gathers pace.

More information

For more information about the Report or superannuation generally, contact Maddocks on 03 9288 0555 and ask for a member of the Maddocks superannuation team.

1 section 42(1AA)(b) SISA


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