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Adding tax effect accounting to your arsenal

By Naz Randeria
July 20 2016
4 minute read
Adding tax effect accounting to your arsenal
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While tax effect accounting is typically not applied to SMSFs, practitioners should be aware it can provide benefits for clients, such as an accurate measure of member benefits.

As you would be aware, trustees of SMSFs are required to prepare financial statements in accordance with the accounting policies as per the requirements of the SIS Act 1993 and SIS Regulations 1994.

There is no requirement for an SMSF to comply with the Australian equivalent of International Financial Reporting Standards as the financial statements of an SMSF are prepared under the special purpose framework. Consequently, superannuation funds often do not apply tax effect accounting principles in accordance with AASB 112, which is within the requirements of GS 009 Auditing Self-Managed Superannuation Funds (reference para 218).


Tax effect accounting is fairly complex and ordinarily requires input from tax experts. However, tax effect accounting can be used as an effective tax strategy and there are some salient features that practitioners may want to consider as below:

1. Provide an accurate measure of member benefits

Regulation 8.02B requires that all assets are valued at market value. As a result, often superannuation funds may report a significant appreciation in the value of their assets, which in turn increases the balance in the members’ account. However, such an increase implies there is an unrealised capital gains tax liability. Consequently, if the fund elects to apply tax effect accounting, the statement of financial position will report a deferred tax liability as a result of the appreciation in assets, net of the potential tax. This could be advantageous for a fund that is in part pension mode, where the trustees keep the pension withdrawal amount to a minimum. Similarly, if a member were to leave the fund, accounting for the deferred tax liability would ensure that the growth in the departing members’ account balance took into consideration the potential tax liability, which would then correctly represent the value of the benefits rolled out.

However, it must be noted that the accounting standards do require that the accounting policies must be applied consistently from one year to another. Any change in accounting policy should be only as a result of providing reliable and more relevant information about the effects of transactions, other events or conditions on the fund’s financial position.

Therefore, the trustee cannot opt to change the basis of accounting from one year to another to suit the amount of pension they would like to withdraw from the fund each year.

2. Indicate potential tax liabilities and investment decisions

Recognising deferred tax liability on statement of financial position indicates the fund is potentially making profit over its investments. In such circumstances, there is some certainty that on realisation of the assets at a profit, the fund will incur a tax liability. Hence, recognition of a deferred tax liability would enable the trustees to make the correct investment decisions.

3. Budget 2016

Following the re-election of the Turnbull government, from 1 July 2017, the earnings generated by transition to retirement pensions will likely be taxed at 15 per cent, i.e. the same level of tax paid by funds in accumulation phase. Additionally, the proposed $1.6 million cap on tax-free retirement balances also scales back the tax concessions enjoyed by trustees with large balances in pension phase. Assuming a fund reports significant increase in unrealised gains in a year, recognising the corresponding deferred tax liability seems an advantageous strategy to partially reduce the value of the total member benefit in an unsegregated fund.

Where the fund is in part pension mode, the quantum of deferred tax liability should be reduced on the basis the earnings from assets funding the pension are tax exempt. When the fund recognises a deferred tax liability for a part pension fund, it ensures the pension withdrawals are not overstated.

Ordinarily, the auditor considers whether the recognition of any current or deferred tax liabilities or tax assets is appropriate given the likelihood of payment of liabilities or realisation of the assets based on the circumstances in the superannuation fund.

AASB 1020, para 12 and 13, refers to the concept of ‘virtual certainty’, i.e. a deferred tax asset can be recognised as an asset where realisation of the benefit can be regarded as being beyond reasonable doubt. Based on the argument in the aforesaid paragraph, it is questionable if the accounting principles would justify recognising a deferred tax asset.

To recognise a deferred tax asset, means that the trustees have decided to dispose of the investments, post-year end or at the future date, at the loss. Realistically, this would be an unlikely assumption to consider since the sole objective of any fund would generally be to save up for retirement, which would leave someone to conclude that the trustees’ primary objective would be to achieve growth and/or make a gain.

However, there are limited circumstances when a superannuation fund can recognise deferred tax assets. One of these circumstances would be when events subsequent to balance date satisfy with certainty that the trustees have disposed of the funds’ investments at the loss or there is a permanent diminution in the value of securities. For instance, if the fund reports a permanent diminution in value of certain assets, it would satisfy the ‘virtual certainty’ test provided there is potential to recoup the losses.

Conversely, there are no particular issues while recognising a deferred tax liability. Not because it is a liability but there is reasonable certainty, that on realisation of the assets at a profit, there will be a tax liability that the fund will incur.

To summarise, accounting for deferred tax depends on the circumstances within each superannuation fund and must be planned, administered and accounted for correctly.

Naz Randeria, director, Reliance Auditing Services