SMSF - Differences between Regulated and Non-Regulated Funds & Complying and Non-complying Funds under the Superannuation Industry (Supervision) Act (SIS).

Whether a fund is established as a SMSF or not, all funds must be a "regulated superannuation fund" in order to receive concessional taxation treatment as a complying superannuation fund1.

A "regulated superannuation fund" is defined2 as a fund that complies with SIS3 and whose trustee has lodged an election with the regulator4.

In order for a fund to be able to lodge an election, the following two requirements must be satisfied:

(i) the fund in question must have a trustee; and
(ii) the trust deed or governing rules of the fund must either require the trustee to be a "constitutional corporation" (ie. a trading or financial corporation), or provide that the sole or primary purpose of the fund is the provision of old-age pensions.

The second requirement was included in SIS so that the Federal Government can use its powers under the constitution to directly regulate the superannuation industry5.

Once an election is made the fund becomes a regulated superannuation fund. This election is irrevocable6.

Non-Regulated Funds

A non-regulated fund is a fund that has never made an election to the SIS regime. Non-regulated funds are not eligible for taxation concessions because they cannot qualify to become complying funds7. Rollovers and benefit transfers from regulated funds to non-regulated funds are not permitted8 .

Compliance Status

(a) Complying Fund

A regulated fund may either be complying or non-complying. A regulated fund is a complying fund only if the fund's regulator (for an SMSF- the ATO) has given a notice of compliance to the trustee9 in relation to the relevant year of income10, or if the fund has already received a notice from the ATO the regulator has not issued a notice of non-compliance to current or subsequent year of income . For an SMSF these notices are usually issued after the fund’s first audit. Many lenders and financial institutions require a copy of this notice before commencing a lending or investment transaction.

Situations that may cause an SMSF to be non-complying are as follows:

(i) An SMSF fails the Compliance Test
A SMSF loses its complying status if it fails the "Compliance Test". A regulated SMSF can contravene the provisions of the SIS Act11 or the SIS regulations on one or more occasions but as long as the fund passes the "Compliance Test" it will remain a complying fund.

The compliance test12 will be passed if the ATO considers:
(A) the tax consequences that would arise if the fund were to be treated as non complying;
(B) the seriousness of the contravention; and
(C) any other relevant circumstances, thinks that despite the contraventions, the fund should be given a notice stating that the fund is a complying superannuation fund.

(ii) Residency Test13

Only Australian superannuation funds can be complying funds. If an Australian regulated superannuation fund (including SMSF’s) at any time during the relevant income year fails the residency test, then it will cease to be complying in respect of that year.

A fund will be an Australian superannuation fund if:
(A) it was established in Australia, or it has an asset in Australia; and
(B) the central management and control of the fund is ordinarily in Australia; and
(C) if there is at least one active member of the fund, the percentage worked out using the following formula is not less than 50%:

Total of accumulated entitlements of resident active members X 100 / Total of accumulated entitlements of active members

An “active member” is a person who is contributing to the Fund, or having contributions made in respect of them.

A member is not an active member if they are not a resident of Australia, and they are not making contributions to the fund and the only contributions received into the fund was during the time they were resident14. These benefits are not included in the calculation.

Central management and control of a superannuation fund will be taken to be ordinarily in Australia even if that central management and control is temporarily outside Australia for a period of not more than two years15.

(b) Non-Complying Fund

A non-complying superannuation fund is defined as a superannuation fund which is not a complying fund in relation to the relevant year of income16. Clearly, any SMSF which has not elected into SIS will be considered to be non-complying until an election to become a regulated fund is lodged. Similarly, any fund which has made a SIS election but which either ceases to be an Australian superannuation fund, or contravenes SIS and either does not pass the compliance test for SMSF’s will also be non-complying.

Loss of favourable taxation concessions

Currently tax on accumulation superannuation fund earnings and deductible contributions is 15% (10% for capital gains- 15% less the 33% discount).

The Tax Act17 imposes severe penalties on funds which changes its status from complying to non-complying, by bringing to account for tax purposes the entire assets of the fund, less un-deducted contributions, at the 45% rate applicable to non-complying funds in that year.

The earnings of non-complying funds will continue to attract a higher rate of tax being 45% for the current year. The 45% rate will apply to earnings and any deductible contributions made to the fund18.

A non-complying superannuation fund is not entitled to the refund of any imputation credits attaching to dividends received by the fund on its shareholding portfolio.

Severe penalty

In practical terms, it means that where a fund is complying but becomes non-complying in the next year, the total assets of the fund, less un-deducted contributions are taxed at the 45% non-complying rate, with no credits given for tax previously paid.

Note: Please note this article is for information purposes only and is not legal advice.

Rose Guerin Chartered Accountants is not licensed to provide financial product (‘FP’) advice under the Corporations Act 2001 (Cth).

1Sections 42, 42A and section 45 of SIS
2Section 19
3Sections 19(2) and (3)
4Section19(4) agreeing to be bound by SIS
5Under the constitution, the Federal Government is given power to regulate trading and financial corporations as well as the provision of old-age pensions.
7Section 42
8Regulations 6.28 and 6.29 of the Superannuation Industry (Supervision) Regulations 1994 ( SIS Regulations)
9Under section 40 of SIS
10Section 45
11Under section 42A(1)(b)
12Section 42A(5)
13Section 295-95(2) of the Income Tax Assessment Act 1997 ( The Tax Act)
14Section 295-95(3)
15See section 295- 95(4) of the Tax Act
16Section 995-1(1) of the Tax Act,
17Sections 295-320 and 295-325 of The Tax Act
18Sections 295-320 and 295-325 of the Tax Act

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