Superannuation fund trustees are bound by the Superannuation Industry (Supervision) Legislation (SIS) and are regulated by the Australian Prudential Regulation Authority (APRA), except for Self Managed Superannuation Funds (SMSFs), which are now regulated by the Australian Tax Office (ATO).
There are literally thousands of superannuation funds, official estimates based on 1998-99 numbers indicate that there are well over 200,000 of them, most (98%) of them SMSFs but corporate plans, industry plans, unions, bank RSAs, boutique funds and public sector operations make up many thousands.
APRA, which was embarrassed recently by the implosion of HIH and some other scandals knows that it can not hope to catch all trustees who don't comply with SIS rules, and so SIS legislation now requires all funds undergo regular compliance (legal) and financial audits, placing responsibility on the auditors.
Contrary to popular belief, the government does not bail out investors who have invested with funds that have been annihilated by incautious or fraudulent trustees. When the smoke clears all parties find themselves in court suing the trustees as well as the auditors, but unfortunately there is no guarantee that your money will be refunded. The government's only last resort retirement plan is the age pension and Newstart Allowance.
APRA is responsible for:
APRA is not responsible for checking up on investment strategies to see that the trustees are picking the right stocks and investing in the right markets. SIS does state a number of restrictions related to making sure there is an arms length basis between the investment strategies and the trustees (restrictions on trustees using the fund to invest in their own businesses or those of associates), but ultimately no judgement is passed on the trustees ability to invest (or speculate) in publicly listed securities. This puts some of the onus on investors and financial advisers to make sure money is invested in a way you are comfortable with.
- approving trustees who wish to operate public offer funds or pooled superannuation trusts
- dealing with elections by trustees for funds to be regulated funds
- ongoing compliance with SIS legislation
Complying superannuation funds
A fund can apply to be a regulated complying superannuation fund, if the fund is able to comply with regulations it is entitled to a concessional taxation rate of 15%. Once the election is made it is irrevocable.
A notice of complying fund status is issued each year for the fund. This notice continues to have effect until revoked by a notice of non-compliance from the regulator.
A super fund is not a legal entity, it is a type of trust. This means that it must have trustees. The trustees (or trustee) are responsible for holding the superannuation assets on behalf of members.
There must also be a trust deed which sets out the rules of the fund. The trust deed can be amended, but only within the guidelines set out in the previous trust deed for that fund. The trust deed can set out additional restrictions on the running of the fund in addition to SIS regulations, but is not permitted to contain clauses that breach the SIS act.
If a notice of non-compliance is given, the fund will lose compliant status and lose its concessional 15% tax rate. It will also no longer be able to accept compulsory Superannuation Guarantee Contributions (SGC) - that 8 or 9% employers put in. Although it probably doesn't affect the trustees much it certainly does affect the members who now have to pay high taxes. The result then is indirectly harmful to the manager who will probably see his funds under management dwindle as members put their money elsewhere.
Superannuation has been designed for a specific purpose. It is meant to fund people's retirement or provide for dependents. It has attracted a lot of attention from creative accountants who have sought to make it a vehicle for tax avoidance or to provide other benefits. Since 1999 a new set of rules have been in place which restrict the ways super funds can be used, apparently too many people were find ways of using super as a tax-dodge or as a means to exploit other benefits.
There are six main types of restriction:
APRA and the ATO are slightly different in how rigorously they enforce the rules. While APRA is likely to send cautions and give notice with timetables to achieve compliance, the ATO has a reputation for being jack-boot wearing thugs who very closely monitor funds and bang heads at the slightest sign of insolence. If you have a self-managed super fund make sure that you comply with the letter of the law because the ATO are not people you want to cross.
- Sole Purpose Test: the fund must be maintained for the sole purpose of providing members with retirement benefits or providing benefits to family members and dependents in the event of the member's death. Some other "ancillary" benefits are allowed, but a super fund is not there primarily as a means of getting people tax discounts or as some sort of scheme to get tax free stuff.
A good example of something that has been recently found to violate the Sole Purpose Test is the new Coles-Myer discount card scheme. Until the scheme was recently re-launched, people that held the shares through a super fund would get a bonus, the discount card. When the scheme was re-launched the new scheme required a $50 annual fee to be paid, which can be taken out of dividends if the investor wants. The powers-that-be declared that since the scheme requires shareholders to forfeit dividends, a deliberate act, then the scheme is no longer a bonus, but a deliberately sought benefit, for which the super fund paid (in the form of the dividends foregone). This is a typical example of something that is not covered by the Sole Purpose Test, but any scheme where the fund either pays money, or fails to receive money that would otherwise be due, that is not linked to providing benefits for the member or their family in the event of retirement, disability or death, would not usually be allowed.
- Borrowing restrictions: this one annoys real estate guys in particular. Super funds can't borrow. They can invest in other companies and trusts that have leverage (so you can invest in endowment warrants, geared real estate trusts and geared share funds like the ones Colonial First State offers, but you can't actually borrow money to do this.
- Non arms length investments: investments themselves don't necessarily have to be only with unrelated parties, as a trustee of your own fund you can sell stuff to your fund, but they must be on a commercial basis, so you can't lend yourself money from your super fund at one percent (cheap credit) or 60% (big tax deductions for you, only pay 15% tax on the profits at the other end). If you are going to sell a business building or shares to your self managed super fund it must be at reasonable market price.
- Acquisition of assets from related parties: mostly you can't acquire assets from related parties, or enter into any scheme where this may be likely in the future. There are some exemptions:
- Listed securities
- "Business real property", which is defined as property used in your business. The property must be transferred at market price, it can't make up more than 40% of assets of the fund and is only available for self managed super funds and small APRA funds (funds with 4 or less members). The property must be transferred without any debt, the borrowing restriction still applies. You can have a debt on the property still but that is your debt, not the fund's.
- A life insurance policy issued by a life insurance company.
- A deposit with an approved deposit taking institution.
- A deposit with an approved non-ADI financial institution.
- An investment in an approved pooled superannuation trust (at arm's length)
- An investment in a widely held unit trust.
- An in-house asset of the fund where in-house assets make no more than 5% of the fund.
- An asset acquired under a merger between regulated super funds.
- Any other asset receiving written approval from the regulator where they determine that asset can be obtained by any fund or any class of funds in which the fund is included.
- In house asset provisions: an "in house asset" is a loan-to or investment with a related party of the fund. The exact rules are complicated but simplistically for new funds you can allocate no more than 5% of the fund money to in-house assets.
- Investment strategy: the trustee of the fund must formulate an investment strategy that has regard to the whole of the circumstances of the fund, including risk and return, diversification, liquidity and the ability of the fund to discharge its liabilities. The stated objectives must be specific, measurable, in writing and realistic and achievable. They don't tell you which stocks to buy, but if the strategy is to invest in a particularly speculative and unconventional security the trustees could have trouble at audit time, and if someone later sues the trustee may be held accountable for his imprudent management.