By Kimberlee Brown, SMSF Director, H&R Block SMSF Solutions

The Trust Deed for an SMSF is the Fund’s most important document. It stipulates all the rules which govern the operation your fund. Whilst legislation typically specifies what trustees ‘must not’ do, the governing rules of a Fund specify what trustees are ‘allowed’ to do. In other words, even if a course of action is permitted under the Superannuation legislation, you still need to ensure that these actions are permitted by the trust deed as well.

The superannuation legislative environment has evolved significantly with three major updates effecting the operations of SMSF’s in the last 15 to 20 years.

  • 1999 – Conversion of ‘excluded funds’ to ‘SMSF’s, change in preservation and in-house asset rules
  • 2007 – ‘Simpler Super’ reforms
  • 2017 – Sustainable Super reforms

In both 1999 and 2007, most SMSF Trustees amended their trust deeds to ensure they provided the necessary powers (and reflected the restrictions) introduced at that time. The 2017 Superannuation Reform changes represent another instance of when SMSF Trustees should ensure their trust deeds are up to date. The Superannuation Reform legislation, which received assent in November 2016, will once again change the way in which superannuation funds operate. Therefore, prudent SMSF trustees will ensure that their trust deeds cater for the ongoing evolution of superannuation law.

In addition to the legislative changes, there have still been a myriad of tax determinations, rulings, court cases & ATO guidance on a range of issues resulting in new strategies developed and changes in best practice which require an up to date SMSF trust deed to protect your interests and get the most from your SMSF.

Risks with an Old Deed

Many old trust deeds were drafted with ‘regimented’ sections and unnecessary rules and consequently have not been ‘permissive’ enough to cater for the continual changes in superannuation law. They may state mandatory SIS requirements and legislation which tends to date deeds and makes them more restrictive to operate. There are instances where the Trustee may inadvertently act on outdated powers contained in their Trust Deed; powers which had been removed by legislative change. Conversely, trustees may be unable to exercise certain powers due to a lack of the relevant provisions in their deed. A good example would be a pre-2012 deed which may specify who could be a member of an SMSF reflecting the position of the law at the time. In March 2012, the law changed to allow an SMSF to include members under the age of 18. The deed in question may not permit the adding of child members given it may have specifically stipulated that members had to be above the age of 18.

It can be dangerous for an SMSF to have an old trust deed with irrelevant and invalid clauses. If the Trustees were to undertake actions without the authority of the Trust Deed or inadvertently act on outdated powers contained in their Deed, they could risk incurring audit breaches that could lead to ATO investigations and sanctions. They could also experience a loss of tax benefits - for example if they attempt to commence a particular pension without the power in the deed. Moreover, the wrong beneficiaries may receive Death Benefits because of invalid documentation (i.e. BDBNs being deemed invalid etc.).

Key Reasons to Modernize your Deed

With the amount of changes to superannuation, it’s essential that your SMSF has a robust, flexible and good quality trust deed which is reviewed regularly. Some of those changes reflect developments in best practice. Others reflect changes in the law. Following is a list of key areas that older deeds may lack in and the reasons why we believe these deeds should be updated, especially in light of the recent 2017 Superannuation reforms.

Flexible Pensions

Significant reforms to the pension rules that came into effect from 1 July 2007 has meant that many older SMSF deeds have inflexible pension payment provisions which do not contain appropriate powers that permit SMSF trustees to pay newer forms of pensions that comply with superannuation law. An example here are old deeds that do not provide for an Account Based Pension, even though it has been the predominant pension paid by an SMSF since 2007.

Furthermore, following these changes, members cannot begin Allocated Pensions or Market Linked Pensions (except in very limited circumstances). Earlier changes to the superannuation law ended the ability for SMSF members to commence other forms of pensions such as Defined Benefit Pensions. Given these pension types are now obsolete, any reference to these forms of pensions in a SMSF deed are now superfluous and makes the deed more difficult to read.

Unless those deeds are updated, the current form of account-based pension cannot be paid. A flexible trust deed enables all forms of pension allowable by law to be paid without restriction.

Reversionary Beneficiary Pensions

Old deeds may not allow for reversionary beneficiary pensions to be paid on a member’s death. An auto-reversionary pension is simply a continuation of a member’s current pension on death to a spouse or child. Most new deeds will provide the ability to initiate Automatic Reversionary Pensions. Moreover now, in light of the recent 2017 legislation reform, a member’s propensity to commence new and additional pensions has become increasingly difficult due to the transfer balance cap provisions. Therefore the ability to amend the terms of an existing pension without needing to formally stop and restart the pension, including the ability to add, remove or alter a reversionary beneficiary has become more valuable. The ability to specifically nominate reversionary beneficiaries during the lifetime of the pension (beneficial for avoiding the resetting of pensions and also for grandfathering under Centrelink) is something a modern deed can cater for.

Transition to Retirement Pensions

Transition to Retirement Pensions (TTR) are a subset of Account Based Pensions and can be commenced once a member reaches preservation age. Only up to 10% of the balance can be accessed annually however it has become a powerful tool used by trustees and advisors to minimize tax and maximize super savings since its inception in 2007.

If the Fund’s Trust Deed is an older deed, it may only allow for a pension to commence once the member has retired or reached the age of 65. Relying on deeming clauses in the Trust Deed will not provide the ability for the Fund to pay such a pension because the legislation only defines a TTR and outlines the payment rules for such an income stream, but there is no mention of a Fund’s ability to pay such a pension. Unless the Fund’s governing rules expressly allow for a TTR, then it is likely the Fund may breach its governing rules if it pays a TTR income stream.

The 2017 reforms have removed the tax concessions on these income streams and members running TTR’s will now most likely want to convert them to Account Based Pensions as soon as they are able to. A newly upgraded deed should include a mechanism to automatically remove the limitations imposed in a transition to retirement income stream once the member satisfies a full cashing condition. This ensures that SMSF members can avoid setting up entirely new pensions and incurring the associated costs attached to it.

Death Benefit Payments & BDBN’s

A major reason to update your SMSF trust deed is to better manage your benefits when you die. When this happens, the trustee of your fund must pay your death benefits to either your estate or a dependent (as defined under SIS). Unless you make specific arrangements about how to deal with your death benefits, there is no assurance that your trustee will pay them in the way you want. If you want to create some certainty about what happens to your death benefits when you die, a binding death benefit nomination (BDBN) can be put in place. An SMSF member is not automatically granted a BDBN but the Fund’s governing rules must allow for such direction to the trustee

As trustees of an SMSF can be subject to the direction about what happens with your death benefits, if the trust deed is properly set up, you can put in place a BDBN stipulating who is to receive your death benefits. This can be done under your will or in writing and does not have to be in a prescribed form or renewed every 3 years in the way required by many trust deeds.

If the nomination is to be effective, the trust deed must provide for it in a clear and concise manner. Older deeds may contain unnecessary procedural requirements or restrictions that may render binding nominations ineffective. For example, there may be a linking of the Binding Death Benefit Nomination to the SIS legislation, effectively making the document lapse after three years, unless renewed. Our opinion is that the trust deed should specifically state that a Nomination will not lapse, if that is the intention of the member, because of the passage of time. A good quality deed will allow members to use binding Death Benefit Agreements that do not lapse after three years and these agreements bind the trustees until the member revokes or changes the Agreement.

Member Benefit Guardians & Estate Planning

Another estate planning measure, which a new deed will allow you to implement, is the appointment of a death benefit guardian. The Fund’s governing rules are crucial in determining who will run the Fund once a member has passed away and a deed with a guardianship clause may provide the perfect Email: smsf@hrblock.com.au Telephone: 1300 611 320 solution. If you don’t know what you want to do with your death benefits when you die, this will enable you to set up a safety net to ensure that before they are paid from the fund, the trustee must seek the approval of a guardian that you nominate.

The provision can be further applied where a member of a fund is alive but has lost mental capacity so they may put in place a binding SMSF ‘Living’ Will which lays down how they want their superannuation benefits to be used (i.e. accommodation fees in an aged care facility).

Without this the remaining trustees of the fund have discretion on how the member’s benefits are to be used. A deed which incorporates safeguards, such as a Member Benefit Guardian, to protect a member’s interests in the event of their incapacity or death, at the exclusions of other trustees, will ensure security and certainty.

A well drafted modern trust deed is also clear about the priority of death benefit lock in provisions and that future variations cannot change binding death benefit arrangements inadvertently. It can also include sufficient options within its death benefit provisions including a capacity for trustees to pay child pensions or pay death benefits to a superannuation proceeds trust.

Commutation Authorities

Under the new Superannuation Reform legislation, trustees must be able to comply with the new forms of commutation authorities and have the power to pay the various taxes which may be levied, such as the excess transfer balance tax, excess non-concessional contributions tax and similar penalties even without the consent of the member. This includes the ability to refund excess contributions, given there will be greater restrictions on non-concessional contributions. Trustees need to ensure that their SMSF’s governing rules include these up to date provisions regarding excess transfer balance tax, excess nonconcessional contributions tax and the process for being able to pay these excess amounts to the ATO.

Other Operational Mechanisms

There are a several operational mechanisms which old deeds may not be able to cater for and trustees may want to consider whether any of the following should be integrated into their SMSF’s governing rules. Generally, most new deeds will provide for the below.

  • Segregation - Can the trustee segregate investments between accumulation and pension phases? Segregation strategies can reap significant tax benefits however there are many deeds which do not provide for them.
  • Contribution/Income Reserving - If reserve account strategies are to be pursued, the trust deed must first permit for reserve accounts to be maintained and for the allocation of amounts to and from them.
  • Contribution splitting - While spousal contribution splitting may be permitted by law, it is important that the trust deed is properly set up to facilitate it.
  • Acceptance/Refund of Contributions – does the deed contain powers and instructions to the trustee regarding the inability to accept contributions in certain circumstances and the ability to refund contributions which should not have been accepted? Email: smsf@hrblock.com.au Telephone: 1300 611 320
  • Pension rollbacks - ensuring you have up to date pension provisions including the ability to internally ‘rollback’ pensions to the accumulation phase. This is especially important for SMSF’s that will need to comply with the new transfer balance cap rules from 1 July 2017.
  • Dispute Resolution - are there mechanisms to resolve disputes between members so they can exit the fund without consent of the others?
  • Power of Attorney - Is it clear what attorneys can and cannot do on behalf of a member and are the powers appropriate? Does the deed clearly identify the Power of Attorney when a member living overseas for more than 2 years?
  • Unnecessary Parties – A new deed will remove unnecessary parties to the SMSF. Those parties include roles which have become irrelevant over time, such as the Principal, Principal Employer (and other employer roles), Founder and similar positions.

Limited Recourse Borrowing Arrangements

The ability for an SMSF to borrow funds and invest in real estate and listed securities has been one of the main drawcards for those looking to establish an SMSF in recent years. Borrowing money on a limited recourse basis may be permitted by the super law however an SMSF Deed must also allow it to do so. Many old SMSF deeds contain clauses which prohibit SMSF’s from borrowing or at best general clauses which allow it as long as it’s consistent with the superannuation law. But without all the specific requisite powers in the deed (such as to borrow, to grant a mortgage/charge assets, to appoint a custodian), banks are unlikely to actually asses relevant loan applications as they expect SMSF deeds to contain guidance to the trustee on how to comply with the specific requirements when borrowing.

Investment Powers

It may be prudent (or a requirement) to update the Trust Deed if the trustees are looking to undertake a specific investment. An up to date deed will reflect the common requirements of third parties over time, such as banks, who make requests regarding the existence and form of conflict of interest clauses, or have investment powers for an increasing range of market-traded financial products (i.e. derivatives, swaps and futures).

When should you update your Deed?

Generally speaking any SMSF Deed prepared before 2008 needs to be amended to bring it into line with the raft of changes that have occurred legislatively since the advent of the Simpler Super reforms as well as the numerous legislative instruments, tax determinations, court cases and tax office rulings which have altered the innovative landscape and best practice of the industry.

However due to the enormity of the recent superannuation reforms, we recommend that all clients consider the need to upgrade their SMSF deeds. This is particularly critical where the members of an SMSF intend to consider superannuation or retirement planning in the near future.

Whilst we recognize that recently established or upgraded deeds may not need to be upgraded, we do recommend that they be reviewed in detail before any major decision is implemented, e.g., commencing an income stream, undertaking an SMSF borrowing arrangement, making substantial contributions, splitting a contribution with a spouse or undertaking their estate planning.

Conclusion

One matter that can be attended to, sooner rather than later, is the variation of the trust deed of the SMSF so as to provide all of the necessary provisions required by trustees, not only in meeting the requirements of the superannuation reform provisions, but also adopting the innovations made within the SMSF industry over the years.

Continual innovation in superannuation has tended to ‘age’ SMSF trust deeds which have not kept up to date with those innovations. Well drafted SMSF trust deeds are continually reviewed to consider ways in which they can be enhanced. Therefore, trust deeds which have not been updated, will often fall short of the expectations of trustees and their advisers.

How we can help at H&R Block SMSF Solutions

At H&R Block, we have an established relationship with a legal specialist and can endorse the quality of our trust deeds. Our deeds capture all the recent superannuation legislation reforms and innovations and are written in a non-prescriptive and easy to read way. Updating your trust deed with us will ensure that you have a modern, robust and flexible deed that should cater with superannuation strategies and operational mechanisms as they develop. We offer our trust deed upgrade service at a competitive fee of $299.

 

Important information

This content has been prepared by H&R Block Ltd ("H&R Block"), ABN 89064268 800.The information is general in nature and does not take into account your personal situation. You should consider whether the information is appropriate to your needs, and where appropriate, seek professional advice. Although every effort has been made to verify the accuracy of the information contained above, H&R Block, its officers, employees and agents disclaim all liability (except for any liability which by law cannot be excluded), for any error, inaccuracy in, or omission from the information contained on this website or any loss or damage suffered by any person directly or indirectly through relying on this information. 

 

Talk to an H&R Block SMSF expert today

H&R Block is the expert on the full range of SMSF services including establishing a new self managed super fund, buying property with an SMSF and meeting annual compliance and tax obligations.

Find out more

Talk to an H&R Block SMSF expert today

H&R Block is the expert on the full range of SMSF services including establishing a new self managed super fund, buying property with an SMSF and meeting annual compliance and tax obligations.

Find out more