Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 335

Bankruptcy and trusteeship in SMSFs

Bankruptcy affects people in many ways and superannuation is often an afterthought. However, having an undischarged bankrupt as a trustee, or director of a corporate trustee, of a superannuation fund can have significant implications for individuals with SMSFs.

Trusteeship

An undischarged bankrupt is a disqualified person under superannuation law and is not eligible to be a trustee of an SMSF. It is also not possible for an undischarged bankrupt member to appoint their legal personal representative as a trustee.

If an SMSF trustee becomes an undischarged bankrupt, they are required to notify the Australian Taxation Office (ATO) immediately and make alternative arrangements for their SMSF within six months. If alternative arrangements are not made, the SMSF fails the superannuation law definition of an SMSF and ceases to be eligible for any tax concessions. The fund will be taxed at the top marginal tax rate (currently 45%) and the tax rate applies to the fund’s income and the market value of assets just before the start of the year, less the members’ tax-free component. This is the last thing a person needs after becoming bankrupt.

In addition to the tax penalties, civil and criminal penalties may also apply.

Alternative arrangements

There are three primary alternatives to restructure an SMSF:

  • Rollover to a public offer fund
  • Convert to a small APRA fund (SAF)
  • Meet a condition of release.

Rolling over

Individuals may choose to roll their SMSF over to a retail, corporate or industry fund. However, the rollover of the SMSF to these types of funds will trigger a capital gains tax (CGT) event. In addition, any ability to carry forward capital losses will be lost.

When the individual is discharged from bankruptcy and regains the ability to become a trustee, they may elect to roll the fund back to an SMSF and resume the trustee responsibility. However, this will also trigger a CGT event.

Retail and industry funds are also unlikely to be able to accept popular SMSF assets such as property.

Convert to a SAF

To avoid incurring CGT, trustees may choose to transfer the trusteeship to a professional licensed trustee thereby changing the structure of the fund from an SMSF to a SAF. Appointing a new trustee is not a CGT event; the fund (the tax paying entity) continues and therefore no CGT is incurred. Existing cost bases and any CGT losses can be carried forward.

When an individual regains their ability to become a trustee, they are able to convert their fund back to an SMSF structure without incurring any CGT.

A SAF is also likely to be able to accept property as part of a diversified investment portfolio of the fund.

Meet a condition of release

If an individual has met a condition of release they may be able to access their benefit and then wind the fund up within the six month grace period.

Case study - Lee

Lee, 45, is the sole director of the corporate trustee of his SMSF and he has just been declared bankrupt. Lee must immediately notify the ATO that he has become a disqualified person and must also make arrangements to wind up his SMSF.

Lee‘s superannuation assets include an investment property worth $500,000 along with shares, managed funds and cash valued at $1,100,000. The unrealised capital gains are $200,000 on the property and $150,000 on the shares and managed funds.

If Lee elects to roll over his fund to a retail, corporate or industry fund he will trigger a CGT event and the SMSF will need to pay tax.

In addition, Lee may have difficulty finding a retail, corporate or industry fund that will accept his investment property.

If Lee elects to transfer his SMSF to a SAF, there is no CGT event. Assuming that the trustee of the SAF accepts all of Lee’s assets as acceptable investments, Lee will simply be able to appoint a new licensed trustee to his fund via a deed of retirement and appointment that will also convert the fund to a SAF.

Case study – Bel and Sy

Bel and her husband Sy are both 48 and are individual trustees of the B&S SMSF. Bel is about to be declared bankrupt. Bel must immediately notify the ATO when she has become a disqualified person and she and Sy must make alternative arrangements for their SMSF. They have three options:

Option one

They can transfer Bel’s entitlement to another fund and have Sy continue as the sole member of the SMSF. Under this option, a CGT event will occur for Bel as her only option is to roll her fund over. She cannot utilise the change of trustee option since the B&S SMSF is continuing as an SMSF, with Sy as the sole member. Sy will need to appoint another individual trustee or be the sole director of a corporate trustee. If the B&S SMSF incurs capital gains, tax will need to be paid.

Option two

They can wind up the SMSF and each make alternative arrangements. Under this option a CGT event occurs for both Bel and Sy. Any capital gains will attract tax and any capital losses will not be able to be carried forward.

Option three

They can appoint a licensed trustee company and both continue membership of the B&S SMSF. The appointment of a new trustee to the B&S SMSF is not a CGT event. The fund will continue as a SAF rather than as an SMSF.

Summary

The consequences of bankruptcy can have a serious effect on superannuation where the trusteeship of SMSFs is involved. It is important that trustees understand the potential implications to their SMSF and act early to avoid serious penalties.

 

Julie Steed is Senior Technical Services Manager at Australian Executor Trustees. This article is in the nature of general information and does not consider the circumstances of any individual.

 


 

Leave a Comment:

     
banner

Most viewed in recent weeks

24 hot stocks and funds for 2021

Many investors use the new year to review their portfolios, and in this free ebook, two dozen fund managers and product providers give their best ideas for 2021 - some stocks, some funds, some sectors.

The hazards of asset allocation in a late-stage major bubble

The Grantham article everyone is quoting, in full. "The long, long bull market since 2009 has finally matured into a fully-fledged epic bubble ... this could very well be the most important event of your investing lives."

10 key themes for 2021

A summary of 10 investing themes for 2021 including early-cycle opportunities, populism, digital transformation and supply chains, plus the outlook for equities, fixed interest and alternatives.

Seven steps to easier management of your estate

Don't make life difficult for the person trusted to manage your estate. Find the time to arrange your documents, contacts, online accounts and files in a convenient place, including giving them some cash.

Five reasons Australian small companies are compelling investments

Many investors focus primarily on the big listed companies but the smaller end in tech, mining and healthcare outperforms through innovation. Many Australian companies are world-leaders in their speciality.

Retirement changes everything: a post-retirement investing framework

Categorising post-retirement needs – living, lifestyle, legacy and contingency – creates a framework for retirees. Advisers can translate these needs into investment goals and portfolios.

Latest Updates

Alternative investments

What to do when your collectibles become collapsibles

Collectibles are everywhere, from old cars, to sneakers, to wine, to cards and anything old and prized. But even if a collectible once attracted thousands of followers, what happens when the fans lose interest?

Financial planning

Compound interest rewards patience in an impatient world

Let compounding do its work. It starts slowly. This is why many of those who start an investment programme (or fitness programme, dietary change, sport, or business) give up in the early stages.

Shares

How did you go? Australian and global stockmarket winners and losers

The Australian market overall finished flat for calendar 2020, but the pandemic delivered big wins and losses. The companies, sectors and companies you invested in delivered vastly different results.

Investment strategies

What is endowment-style investing and who should use it?

For investors who have the scale, long-term investment horizon and lack of liquidity requirements, it makes sense to implement an asset allocation that can take advantage of a lack of constraints.

Investment strategies

Five ways to build investment portfolios amid growing inequality

At the start of the 20th century, a 'Gilded Age' for plutocrats created vast fortunes and economic inequality surged. COVID is having the same impact now, but portfolios can be adapted to respond to the opportunities.

Investment strategies

The hazards of asset allocation in a late-stage major bubble

The Grantham article everyone is quoting, in full. "The long, long bull market since 2009 has finally matured into a fully-fledged epic bubble ... this could very well be the most important event of your investing lives."

Investment strategies

Best and worst performing equity funds of 2020

Growth was the place to be through the pandemic while value managers couldn't catch a break. It's the long run that matters but 2020 delivered pleasure or pain for many managers.

Sponsors

Alliances

© 2021 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use.
Any general advice or class service prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, has been prepared by without reference to your objectives, financial situation or needs. Refer to our Financial Services Guide (FSG) for more information. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.