Penalty units can be applied by the ATO under s 166 of SISA, for many reasons including:

• lending to members or relatives (with exceptions): 60 penalty units;
• borrowing (with exceptions): 60 penalty units;
• failing to comply with in-house asset rules: 60 penalty units;
• failing to keep minutes: 10 penalty units; and
• failing to keep records of changes of trustee: 10 penalty units.

Administrative penalties are imposed on the trustees/directors of an SMSF personally and should not be paid by the SMSF.

It is interesting to note that the penalty unit has increased by 83% since 30 June 2017 as summarised below.

*The increase to $330 was announced in the 2023-24 Mid-Year Economic and Fiscal Outlook (MYEFO) released on 13 December 2023 and will apply to offences committed after the start date once the legislation is finalised. The penalty unit amount will then be indexed every three years in line with the consumer price index.

SMSFs without a corporate trustee risk passing on greater penalties to their trustees

It is definitely a good time to move away from individual trustees and move to a corporate trustee. The table below shows the substantial savings (when considering the trustee-group as a ‘whole’) that comes with having a corporate trustee.

For each of the examples below, we use the example of a breach of the borrowing rules which attracts 60 penalty units at the proposed new rate of $330 (60 x $330=$19,800).

Note:

- An SMSF should have a minimum of two individual trustees.

- Some jurisdictions also impose a maximum of 4 individual trustees.

For a single administrative penalty to be imposed on a corporate trustee (differing from a penalty imposed on each individual trustee), the corporate trustee must have been appointed prior to any contravention. Thus, timely pro-active action is needed to obtain the benefit of the single application of one penalty on a corporate trustee (compared to a penalty being imposed for each individual trustee).

Does one or multiple penalties get imposed?

ATO records confirm that contraventions generally occur in multiplies rather than as once-off events as there were, for instance, around 3 auditor contravention reports (ACRs) for each SMSF for FY2022 with a total of around 40,000 ACRs for of the 13,558 funds (ie, around 2.95 per fund).

Thus, assuming there were three separate breaches per SMSF (3 events x 60 penalty units x $330 for each unit = $59,400 would be payable with a corporate trustee), the amount saved with a corporate trustee would be as follows:

Remission of administrative penalties

The ATO’s Practice Statement PS LA 2020/3 outlines grounds for remission of administrative penalties imposed via s 166 of the SISA. Remission may be sought, for example, where there is a series of contraventions relating to the same matter.

Even funds who think they are safe may not be; contravention probability and stakes are rising

Many trustees put off moving to the corporate trustee model because they do not expect to contravene the law. This can be a risky gamble as it is our experience that even trustees that consider their fund management to be diligent and honest can face hefty penalties due to contraventions linked to human error. As the saying goes, to err is to be human and a common example of human error resulting in unsuspecting trustees facing penalties is the making of an unauthorised withdrawal or a failure to immediately reimburse the member for an expense paid on behalf of a fund.

In addition to the increased severity of a contravention, trustees now also face an increased probability of being caught with the ATO increasing its pressure on SMSF auditors; resulting in SMSF auditors being more inclined to issue ACRs for actual or potential contraventions.

Can advisers be liable?

Given that advisers may be implicated in contraventions, especially if they give incorrect advice, advisers should be proactive in assisting clients move to a corporate trustee. Advisers can inform clients of the increased risks and the substantial increase in penalties for individual trustees and the fact that mistakes may arise along the way. An adviser who has not been proactive in recommending a corporate trustee may be asked to pay the additional penalty if the adviser has not brought the different treatment to the client’s attention.

Conclusions

With the substantial increase in the penalty of 83% in six years, query whether the penalty unit regime should be reviewed especially, as prior to any remission, we have seen some administrative penalties on SMSFs exceed several hundreds of thousands of dollars. Regardless, the different treatment in the application of administrative penalties on corporate trustees compared to individual trustees creates a compelling reason for every SMSF to have a corporate trustee.

As a general rule, SMSFs with individual trustees should make the move as soon as practicable or be exposed to the risks of suffering the higher penalties.

Advisers need to be proactive in notifying clients with individual trustees of the above risks and minimise risk. As noted above, timely action must be taken to minimise any adverse impact.

Naturally, expert advice should be obtained if there is any doubt. DBA Lawyers has also assisted SMSFs in seeking a full or partial remission of penalties. We also regularly assist SMSFs in relation to the ATO’s early engagement and voluntary disclosure service (click here for our article on this topic).

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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.

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