This article considers a number of civil penalty orders that have been imposed by the courts on trustees of SMSFs that contravened the civil penalty provisions under s 193 of the Superannuation Industry (Supervision) Act 1993 (Cth) (‘SISA’).
Substantial penalties can be imposed for contravening the following:
- the sole purpose test;
- lending or providing financial assistance to members;
- the borrowing prohibition;
- the in-house asset rules; and
- the arm’s length rules.
The ATO as the regulator of SMSFs, under s 6 of the SISA, has the power to apply to the court under s 197 of the SISA for a civil penalty order. Generally, the ATO only seek a civil penalty order as a matter of last resort such as where there is a severe contravention and where other resolution options are not appropriate.
As a general rule, the ATO would prefer to apply administrative penalties due to the ease with which an administrative penalty can be imposed.. In contrast, the ATO must initiate court proceedings to pursue a civil penalty order.
SMSF trustees should seek expert advice
It is highly recommended that trustees seek advice before undertaking a novel transaction. For example, a loan to a family member or related party by an SMSF is a contravention that can result in serious penalties.
While SMSF trustees should get advice where needed, they should also ensure they seek out an adviser with the right qualifications and expertise to provide the advice. SMSF lawyers, for instance, are best positioned and are qualified to provide legal advice. Other advisers providing advice on superannuation law such as the application of the SISA in respect of a transaction might not be authorised to provide legal advice.
It is worthwhile noting here that SMSF trustees that rely on incorrect advice are still liable to penalties, as was the case in Deputy Commissioner of Taxation v Lyons  FCA 1353 (‘Lyons’). This case involved a financial planner incorrectly advising an SMSF trustee that moneys could be withdrawn by SMSF members to pay debtors. In Lyons, the court imposed penalties of $32,500 for contraventions arising from the fund making six loans totalling $190,000 to a relative of Mr Lyons over a 10 month period. The contraventions included:
- failing to maintain the fund in compliance with the sole purpose test;
- lending to a relative;
- failing to take reasonable steps to ensure the loans were within the in‑house asset market value ratio; and
- failing to deal on arm’s length terms.
Whilst Mr Lyons obtained advice from his financial planner with respect to the transactions, the advice was incorrect. This is why it is important to get legal advice from a qualified lawyer who is also an SMSF expert. Naturally, DBA Lawyers is well placed to provide legal advice on all aspects of SMSF law.
In addition to civil penalties, a person can also be charged with a criminal offence upon contravening under s 202 of the SISA a civil penalty provision in the SISA if their conduct involves dishonesty or deception. A criminal offence is punishable on conviction by imprisonment for up to 5 years.
What civil penalty orders have been imposed on SMSF trustees?
Penalties are intended to achieve several objectives, including deterrence, denunciation and punishment (APRA v Derstepanian  FCA 1121 (‘Derstepanian’)). Broadly, in determining the amount that should be imposed for a contravention of the civil penalty provisions, the courts consider the following (Deputy Commissioner of Taxation v Rodriguez  FCA 860 ):
(i) the nature and extent of the contravening conduct;
(ii) the amount of any loss or damage caused;
(iii) the size of the organisation;
(iv) the deliberateness or otherwise of the contravention(s);
(v) the period over which the contravention(s) extended;
(vi) the degree of cooperation of the person concerned, either in the investigation or the subsequent hearing;
(vii) the past record of the person;
(viii) the person’s financial position;
(ix) any amounts already paid by way of compensation or legal costs; and
Further, the courts generally apply the totality principle where there are multiple contraventions that can properly be seen as one contravening course of conduct, albeit over a substantial period of time (Olesen v Eddy  FCA 13).
The table below is a summary of the contraventions in various cases and the penalties actually imposed. The case names have been abbreviated in the table below. The full case citation appears elsewhere in this article.
|Sole purpose test||Lending to members/relatives||In-house asset rules||Arm’s length requirement||Total penalty imposed|
x = contravened
Here is a brief summary of the background for each case and penalties imposed:
- Derstepanian: the fund’s trustees entered into an agreement to purchase 2,903 master patterns and jewellery manufacturing dies for $165,870. However, this price was substantially greater than the true value of the patterns and dies. It was held that the fund’s trustees contravened ss 62(1) and 109(1) of the SISA. Weinberg J noted that the fund’s trustees were liable to a maximum of 2,000 penalty units for each contravention, ie, ss 62(1) and 109(1) of the SISA. The total was a maximum of 4,000 penalty units, a penalty unit equating to $110 in 2005. The fund’s trustees were potentially liable to a penalty of $440,000. Weinberg J noted other factors including that the trustee had already incurred around $500,000 in expenditure and other administrative penalties in relation to the proceedings. It was ordered that the trustees pay a penalty of $100,000.
- Australian Prudential Regulation Authority v Holloway (2000) 35 ACSR 276 (‘Holloway’). Mansfield J made orders that a company and Mr Holloway pay penalties of $222,000 and $35,000 respectively. This was after Mr Holloway was found to have engaged in transactions that contravened the in-house asset rules, which concerned artificial reductions in the value of in-house assets.
- Deputy Commissioner of Taxation v Rodriguez  FCA 860 (‘Rodriguez’): in Rodriguez, the trustee was held to have contravened ss 62(1), 65(1) and 84(1). McKerracher J noted that each of the contraventions was serious and ordered the trustee to pay a penalty of $40,000 and the ATO’s costs of $14,000.
In Rodriguez, McKerracher J provided a summary of the following cases:
- Deputy Commissioner of Taxation v Fitzgeralds  FCA 1602 (‘Fitzgeralds’): in Fitzgeralds, the Court imposed a penalty of $20,000 and $10,000 on Mr and Mrs Fitzgeralds respectively for providing financial assistance to the fund’s members. Here, Mr and Mrs Fitzgeralds as trustees misapplied $148,000 by selling their fund’s principal asset and used those proceeds to pay $48,738.69 to Mr Fitzgerald and the balance of more than $99,000 to settle a claim by a liquidator against the Fitzgeralds in respect of the company formerly controlled by the two. Here, all of the assets were deliberately stripped out and were not repaid. The Court took into account the financial circumstances of the Fitzgeralds, their contrition and their former good behaviour.
- Olesen v Parker  FCA 1096 (‘Parker’): Gordon J imposed a penalty of $35,000 and $15,000 on Mr and Mrs Parker respectively for breaching s 84(1) by failing to comply with the in-house assets provisions in s 83(2) of the SISA, breaches of s 84(1) by breaching s 109(1) for failing to take reasonable steps to prepare a written plan in compliance with s 82 of the SISA and failing to deal with entities in an arm’s length manner and breaching s 62(1) for failing to solely maintain funds for core and/or ancillary purposes. The penalties recognise different roles played by each of Mr and Mrs Parker and their financial positions including that they were then the subject of amended assessments by the ATO. Those contraventions were deliberate, repetitive and occurred over a three year period. There were a substantial number of loans made that breached the sole purpose test.
- Olesen v MacLeod  FCA 229 (‘MacLeod’): the Court imposed a penalty of $12,500 on Mr McLeod for contravening s 62(1) and s 65(1) of the SISA. There were numerous payments out of the trustee to Mr McLeod over a five year period, which depleted almost the entire fund.
- Olesen v Early Sunshine Pty Ltd  FCA 12 (‘Early Sunshine’): the Court imposed penalties of $13,000 on each of the directors of the trustee company, ie, three directors, for contraventions of s 65(1) of the SISA. This was due the payment of a series of loans totalling $551,568.20 over a four year period to a company associated with the directors, which in each case were usually repaid within a few weeks’ time. There were full admissions and cooperation.
- Federal Commissioner of Taxation v Ryan  FCA 1037 (‘Ryan’): the Court imposed a penalty of $20,000 each on Mr and Mrs Ryan for contravention of ss 62(1), 65(1), 84 and 109. The total sum removed from that fund was $209,677, almost exhausting the fund. The conduct was deliberate, but there were no prior contraventions. Approved penalties were imposed.
In addition to the above penalties, trustees must be aware that these amounts do not include the other costs incurred by the trustees in each of the cases, eg, legal costs awarded against them in court and fees for lawyers, advisers and experts and the enormous amount of time and resources in relation to litigation matters.
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This article is for general information only and should not be relied upon without first seeking advice from an appropriately qualified professional.
Note: DBA Lawyers hold SMSF CPD training at venues all around Australia and online. For more details or to register, visit www.dbanetwork.com.au or call (03) 9092 9400.
9 November 2020