Closing the SMSF chapter

The choice to wind up an SMSF is not one to be taken lightly because doing so is absolute. SuperGuardian education manager Tim Miller takes a look at what to consider during this decision-making process.

Every year since 2018, almost as many SMSFs have been wound up as have been established. The decision to wind up a fund should not be taken lightly as once a fund is wound up there is no turning back. Winding up an SMSF is in many instances a far bigger decision than establishing one because the trustees are no longer dealing with a blank canvas and are now left with the likelihood of deconstructing many years’ worth of work.

One of the most important elements of winding up a fund, regardless of where the members sit in the superannuation life cycle, is time. Ultimately, trustees need to have options with regards to all the moving parts associated with being a superannuation member while they start and work through the process of closing down the SMSF and so they need to afford themselves sufficient time to get the job done. Time is not the only issue. Other important elements also exist and are identified throughout this article. None of these issues are sufficient enough to change the decision-making process, but may change the timing of the decision.

Ask the important questions

Over the years, the ATO has released a number of valuable resources around winding up an SMSF and has identified a number of key questions trustees should ask themselves when considering the action. Those questions are:

• Do they have a good knowledge of their responsibilities and obligations?

• Do they have the time to run the SMSF?

• Are SMSF running costs more than they want to pay or would another super fund cost less?

• Are they able to continue managing the fund’s investments effectively or would they get higher returns if their super was managed in another type of fund?

• Do they still want the responsibility of running the fund, including paying fines if things go wrong?

• Do all trustees still agree on how to manage the fund? Has there been a falling out or relationship breakdown?

Reasons for winding up

Having contemplated those questions, the reasons for winding up an SMSF are likely to fall into one or more of the following categories:

• all the members and trustees have left or want to leave the SMSF,

• all the benefits have been paid out of the fund, for example, following the death of a member,

• the SMSF no longer meets the needs of the members,

• members/trustees don’t have the time, skill or knowledge to manage the fund,

• the SMSF is not cost-effective,

• the members decide to relocate overseas,

• relationships between fund members break down as we all know spouses separate and siblings can often not see eye to eye, and

• trustee disqualification, such as bankruptcy. All of the above reasons are valid when making the decision to wind up, but equally each has a counter argument to suggest there is value in continuing with the fund. As per the comment above, once a fund is wound up, there is no turning back, so it’s important to consider whether additional members, alternative service providers or alternative trustees may provide a solution to the fund’s issues.

In limited circumstances, such as when the ATO directs the trustees to wind up the fund, there is of course no alternative, so the appropriate steps need to be taken.

Wind-up flags

While time is critical in the wind-up process to ensure trustees allow themselves sufficient time to action all necessary items before falling into a new financial year, there are other flags that will often determine the timing of a wind-up. Two of the biggest issues are benefit payments and member contributions, but equally significant are fund investments and fund taxation. Fund taxation is a theme that will not only impact the final return, but also whether the timing of the wind-up is appropriate.

Contributions and benefit payments

What is critical in the decision to wind up a fund is what the members are doing with their superannuation benefits. If they are still accumulating super and are unable to access their benefits, then they need to contemplate to where their benefits are to be rolled over and where future contributions are going to be paid. If they receive employer contributions, do they want to continue to receive contributions in the SMSF right up until its final days or do they want to have their contributions directed to their new superannuation fund as early as possible? With contributions, the earlier they are redirected the greater the chance of minimising the risk of lastminute amounts resulting in recalculations of taxation liabilities for the fund and it also gives their employer time to adjust. The last thing a member needs is for their employer to make a contribution in July to a fund that has been wound up in June.

At the other end of the life cycle if the members are receiving a pension, then they may want to continue to make pension payments from their SMSF for as long as possible to ensure the fund retains access to its exempt pension income deductions. This will be useful as the fund sells, down assets to liquidate the members’ balance as it will provide a taxation benefit that would not otherwise be afforded if the members elect to stop their pension early. Of course this issue, about when to stop the pension and when to sell the assets, is also relevant if, instead of paying out a lump sum, the members are rolling their pension into another fund. It’s also important the fund pays the minimum pension for the year, including a pro rata amount if the pension ceases on a date other than 30 June. Don’t get caught out thinking the new fund will pay the pension for the entire year as failure to pay the pro rata minimum will result in the fund losing its tax exemption for the entire year, which could be disastrous.

To execute a rollover, the trustees must first commute the pension, roll it over and recommence it in the new fund. Some funds, namely retail platform-based funds, will allow the paying fund to transfer the assets from the SMSF to their product via an in-specie transfer. It’s less common to see this with industry funds, but if you don’t ask you won’t know. If all the assets are transferred in one hit, from an SMSF perspective, it may be determined that the pension has ceased immediately before those assets are transferred, resulting in a potential capital gains tax liability on the sale. It may be a better option to progressively sell assets while entitled to the pension exemption and then roll over cash. Everyone’s fund is going to be different so again it’s important to consider the taxation ramifications.

The other key issue with pensions is the reporting for transfer balance account purposes. If the trustees transfer to a larger fund, the new fund will report any new pension immediately whereas the SMSF may lag in its reporting of the pension commutation. This could lead to an excess transfer balance cap assessment, which is preferably avoided. As such it is imperative the SMSF reports early.

Fund investments

As alluded to above, possibly the most significant reason why time is the most valued possession with regards to the wind-up process is the investments of the SMSF. If the trustees attempt to rush the wind-up process and have a significant pool of assets, chances are they will run into problems. Trying to wind up a fund in June that holds units in managed funds during the last quarter of the year may mean you’ve got to take into consideration the distributions that are likely to hit in July or perhaps August, as well as wait for the tax statements. If the trustees give themselves longer, then they can identify income patterns and more accurately reflect the member balance to be rolled over.

Also, it must be determined if there any assets the trustees are wanting to retain. This may be for sentimental purposes, although the sole purpose test may suggest otherwise, or it may be a business asset that is being retained by the family. If the answer is yes, then trustees will have to determine how this is to be achieved. For example, will the family or another entity acquire the assets from the fund (at market value) or do the members have an entitlement to a benefit payment and so will make an in-specie transfer of the assets. Make sure the ownership reflects the actual owner and that the valuations reflect arm’slength transactions.

Another issue that can create problems for winding up funds is frozen assets or listed shares that have a perceived nil value but are awaiting the capacity to be written off to be provided by the ATO. In these instances it will often require some level of practical common sense. Is there a capacity to complete a transfer form to transfer ownership (at nil value) to the members? Even if the registry can’t complete the transfer, will the beneficial ownership nature of the transaction allow for the fund to move forward? These are issues often needing to be addressed, but will have to be done on a fund-by-fund basis.

Taxation

What is commonly overlooked when undertaking the process is losses, both tax and capital losses. Trustees must know what the fund is forgoing by winding up at a certain point. Are there unused losses that could be valuable for contributing members or are there sudden capital losses due to significant market events? In some instances those capital losses could be valuable if there are also capital gains in the wind-up year, but it’s an area that is probably not always front of mind.

Other issues

For most funds, the wind-up process should be relatively simple albeit there are bridges to cross to close it down. In some instances there will be other roadblocks to the process. If the fund pays legacy pensions or is a Qualifying Recognised Overseas Pension Scheme fund holding benefits originating from the United Kingdom, then there will be some hurdles that need to be considered. Of course, these funds will be in the minority.

Concluding the process

If, of course, the trustees are winding up their fund to pay a final benefit out to themselves and/or other members, then the timing is less of an issue, but they still want to get their calculations right and have satisfied the appropriate condition of release to be able to fully access their money. They also want to get the timing right so they can avoid unnecessary administration fees by crossing financial years.

As a final point, make a list of all the administrative things that need to be done. Notify the ATO via the final return, wind up the corporate trustee if there is no further use for the trustee company, cancel any insurance and buy a nice box to store all the fund records in for the next five to 10 years as the trustee responsibilities don’t end on the day the fund is wound up.