The use of reserves within self-managed super funds have been debated for many years, with statistics generally showing low levels of reserve activity within funds. However, the rise of strategies to deal with contributions, and the payment of death benefits amongst others, has seen a renewed focus amongst specialists to consider their appropriateness for trustee/members.
There have in recent times been a series of interpretative decisions by the Australian Taxation Office (ATO) and various NTLG discussions that has led me to think about whether reserves still have a place in SMSFs? Consider some of the following to help understand my views:
- ATO ID 2012/16: timing with allocation of contributions
- ATO ID 2012/32: concessional contributions
- ATO Super Technical sub-group NTLG minutes, June 2009: Anti-detriment payments
- ATO Super Technical sub-group NTLG minutes, June 2010: Source of anti-detriment payments
- ATO Super Technical sub-group NTLG minutes, June 2012: insurance proceeds and reserves
ATO ID 2012/16 deals with the timing of allocation of contributions for contribution cap purposes. Within this interpretative decision, the Commissioner states that contributions made into a fund to be ‘held’ by the trustee, do not have to go into reserve, but rather is held in a contribution holding account or suspense account.
The concept of contributions reserves has heightened in recent years as a result of the growing problems with excess contributions. The ATO appear to have aligned their views more closely with APRA guidance, SPG 235: use of reserves in super funds, which states that unallocated contributions are held in a contribution holding account or form of suspense account until such a time the contribution is allocated to the member. This is distinctly different to a contribution reserve, as a reserve would be required under SIS to prepare a separate investment strategy for these amounts, something which is envisaged as not being required in the ATO’s view.
ATO ID 2012/32 which deals with the Commissioner’s interpretative decision on allocations from a self-insurance reserve appears to have driven a further nail in the reserves coffin. The ATO has confirmed that amounts from a self-insurance reserve will count as concessional contribution as the allocations are amounts from a ‘reserve’ in accordance with s.292-25(3) of the ITAA 1997.
Self-insurance reserves have been seen as one way in which to fund anti-detriment payments within SMSFs, where the self-insurance reserve is setup for the purposes of meeting disability and death benefit payments. The payment of an anti-detriment amount from fund reserves within a SMSF has been a problem for some time, since the ATO stated that payments from reserves to make an anti-detriment payment would form part of a member’s concessional contribution. With the tax saving amount typically between 13.65% and 17.647% (subject to the member’s eligible service period), any allocation will not only get caught but is likely to be greater than the concessional contribution cap. With anti-detriment payments able to be ‘funded’ in various forms, reserves certainly aren’t the ‘panacea’ to making this payment in the event of a member’s death.
So what reserves might work?
It appears that the only two items that are not subject to the allocation requirements of:
- being “fair and reasonable” to all members or class of members; and
- less than 5% of the member’s account balance or interest at the time the amount is allocated
are allocations of contributions and transfers from pension reserves to fund another income stream (i.e. solvency and investment reserves from a defined benefit pension used to purchase another income stream).
The Commissioner has taken a very strict view with allocations from reserves to retain the integrity of the contribution caps. Whilst reserves may form part of a broader strategy within an SMSF, the nature of the allocation for concessional contribution cap purposes could mean that in certain circumstances an excess contributions tax position will apply.
One area that does seem an advantage for reserves is the scope to credit amounts from a reserve to a pension account; such amounts from reserve can be ‘added’ to a pension account in the proportion in which the pension was created. If the pension has 100% tax-free proportion, then the crediting is applied in these circumstances.
The other concept that may gain some impetus now that SMSFs are required to value assets to the (net?) market value, is the use of an asset revaluation reserve. Something that is used more broadly with super and non-super asset reporting, this type of reserve may be an important intergenerational tool, in particular where it comes to business real property assets owned by a fund that are required to successfully run the family business.
Whilst the concept of reserves is defined within superannuation law (section 115, SIS Act), there is no definition that exists within tax law to support what constitutes a reserve. It is this issue that appears to have caused some confusion within the industry, not only to SMSFs but to super funds more broadly.
In the current environment though, it appears that reserving benefits have dwindled significantly that one must seriously question whether reserves really have a place within SMSFs?