SMSFs warned on emerging NFT hurdles
The uncertain nature of non-fungible tokens means SMSFs need to closely assess how they will fit into the fund.
An SMSF planning to acquire NFTs will need to ascertain the nature of the underlying asset and any terms and conditions, said Heffron technical specialist Annie Dawson.
These will be crucial in determining whether the SMSF is permitted to purchase the NFT and if it will pass key compliance hurdles.
Ms Dawson said SMSFs should first consider the NFT vendor, with purchases from a related party not permitted.
“Will the nature of the underlying asset or the associated terms and conditions inherently provide SMSF members with a current day benefit?” Ms Dawson said.
“If so, this will be a breach of the sole purpose test and is prohibited. For example, investing in NFTs for personal use in online gaming will breach the sole purpose test.”
Ms Dawson said the trustee would need to be able to provide suitable evidence to demonstrate the NFT was acquired for the purpose of providing only retirement benefits.
It might be very difficult to provide evidence that a fund owned and leased an NFT for use in an online game or metaverse for retirement purposes only, unless there was an audit trail to demonstrate the NFT was not used personally.
“Consider if the NFT and underlying asset acquired will be regarded as a ‘collectable’ or ‘personal use asset’ – whether the fund will be able to meet the strict requirements of SIS Regulation 13.18AA (including obtaining insurance in the name of fund, storing the asset appropriately, documenting the storage decision and ensuring the asset is not leased or used by a related party),” Ms Dawson said.
“As with real world assets, it may be difficult to satisfy these requirements.”
Ms Dawson said the fund had to have its own digital wallet to establish that the platform and cryptocurrency required to acquire and own the NFT would recognise an SMSF as the account owner.
It would be important to establish what reporting would be available to evidence this and if, for example, any read-only access to a digital wallet was possible.
“From an auditing perspective, SMSF trustees would need to be able to satisfy the auditor where the NFT is recorded at market value in the fund’s financial statements,” she said.
“An NFT which represents ownership in a real asset such as property, may be easier to value since the asset is tangible, rather than say an NFT that represents a digital asset.”
SMSFs also needed to ensure that the fund’s trust deed allowed for this type of investment and that the fund’s investment strategy permitted it, having regard for matters such as liquidity (will there be demand for the NFT) and volatility (as NFTs are bought and sold with cryptocurrencies, this type of asset can experience the same volatility as cryptocurrencies).
Ms Dawson said there were plenty of issues to consider when determining whether an SMSF could invest in an NFT.
“It is definitely not a straightforward exercise! In fact, the time, expertise and resources required to determine and then demonstrate an NFT is a permitted investment of an SMSF is often likely to outweigh the benefits of holding this type of investment,” she said.
“If NFTs become widely adopted as a means of denoting ownership of more traditional investments, legislative amendments and clarity from the regulator will be needed.
“For example, would a ‘look through’ approach be adopted, so that SMSFs could acquire an NFT from a related party if the underlying asset is an investment an SMSF would otherwise be permitted to acquire, such as business real property or listed shares.”
Tony Zhang is a journalist at Accountants Daily, which is the leading source of news, strategy and educational content for professionals working in the accounting sector.
Since joining the Momentum Media team in 2020, Tony has written for a range of its publications including Lawyers Weekly, Adviser Innovation, ifa and SMSF Adviser. He has been full-time on Accountants Daily since September 2021.