Breaking down the rules around SMSFs investing in lifestyle assests

By: Gabriela Rusu
Published: May 2020

This article is taken from Outlook magazine, an exclusive Tax & Super Australia member benefit.

With the ATO recently announcing it will step up compliance for SMSFs that own collectables and other lifestyle assets, trustees need to be aware of their obligations.

While investing in collectables and personal use assets can be a solid investment strategy for self managed super funds (SMSFs), there are rules around how fund members and related parties interact and use these assets.

COLLECTABLES AND PERSONAL USE ASSETS DEFINITION

Collectables and personal use assets are broadly defined as objects that are expected to appreciate in value that would normally be purchased for personal use or enjoyment.

Sub regulation 13.18AA(1) of the Superannuation Industry (Supervision) Regulations 1994 (SIS Regs) specifies what assets are taken to be collectables and personal use assets that have associated superannuation legislation compliance obligations. These assets are:

  • artwork (within the meaning of the Income Tax Assessment Act 1997)
  • jewellery
  • antiques
  • artefacts
  • coins, medallions, or bank notes
  • postage stamps or first day covers
  • rare folios, manuscripts or books
  • memorabilia
  • wine or spirits
  • motor vehicles
  • recreational boats
  • sporting or social club memberships.
THE RULES
The special rules for SMSFs making, holding and realising investments involving collectables and personal use assets are contained in section 62Aof the Superannuation Indsutry (Supervision) Act 1993 (SIS Act) and regulation 13.18AA of the SIS Regs.

They apply to any SMSF investment in collectables/personal use assets made on or after 1 July 2011. Transitional arrangement were put in place for assets acquired before 1 July 2011 to help trustees comply with these rules. The five year transitional period began on 1 July 2011 and ended on 30 June 2016.

The rules now require that a collectable/personal use asset owned by an SMSF cannot be:
  • used by any related party of the fund
  • leased to any related party of the fund
  • stored or displayed in a private residence of any related party of the fund.

The definition of a related party is particularly wide and includes each member of the fund, their spouse, their relatives (as defined in section 10 of the SIS Act), business partners as well as any companies and trust controlled by the members and their associates.

In addition to the above:
  • any SMSF investment must be permitted by the fund's trust deed and made in accordance with the fund's overall investment strategy
  • all transactions must be on an arm's length basis and satisfy the sole purpose test
  • the trustee must document the decision about where the asset is stored and keep written records of the reasons for their decisions for at least 10 years.
  • the asset must be insured
  • any transfer of the asset to a related party would require an independent valuation
Some of these rules have been explored in more detail on the following pages.

USAGE AND THE SOLE PURPOSE TEST
Broadly, the sole purpose test requires super funds to be maintained for the sole purpose of providing retirement benefits to members or their beneficiaries in the event of a member's death.

While the sole purpose test applies to all regulated superannuation funds (not just SMSFs) this test is particularly relevant to SMSFs given the same individuals who control a fund are usually the fund's members or beneficiaries.

Generally, under the sole purpose test, the fund's members or any other related parties cannot enjoy a direct or indirect benefit from an investment unless the benefit is incidental or insignificant.

It is however,important to note that the current regulatory regime for SMSF investments involving collectables/personal use assets overrides the 'incidental use' concession granted under the sole purpose test. This, in effect, means that the incidental use provisions allowable under the sole purpose test are not extended to collectables and personal use assets. Consequently, a related party of the fund cannot enjoy any benefits (no matter how significant) from these investments.

SMSF trustees must therefore ensure there is never any personal use/enjoyment of the collectable and personal use assets that their funds owns. For example, a member or related party cannot hang a painting owned by the fund in their home or office. They cannot wear fund-owned jewellery for special occasions or take a vintage car for a spin on weekends.

The purpose of this exclusion is to ensure that any SMSF investment in collectables and personal use assets is made for genuine retirement purposes rather than personal use or enjoyment.

Given these assets cannot be used by a related party for any reason, the ongoing maintenance and care of such assets could be restrictive. For example if an SMSF owns a vintage care, the car can never be driven by a member/related party, not even for maintenance purposes. Because asset maintenance must be independent, only a person who is not a related party is allowed to take a fund-owned care for a maintenance drive.

SMSF members/related parties deriving benefits from these investments become even more of a trap when coupled with the in-house asset rules . As outlined later in the article, leasing collectibles/personal used assets owned by SMSFs to members/related parties is no longer permitted under the current legislation. This is the case even when an arm's length rent is paid and the asset represents less than 5% of the total market value of the fund (in other words, there is no breach of the in-house asset rules).

THE INVESTMENT STRATEGY RULES
An SMSF investment in collectables/personal use assets will only be permitted when the fund's investment strategy expressly contemplates such an asset. The trustee must be able to show that it is a prudent investment and the asset can generate retirement benefits. This must be reflected in the fund's overall investment strategy together with the costs associated with storage and insurance.

The trustees should ensure adequate income/liquidity in the fund to enable benefits to be paid to members of their beneficiaries. If they are thinking of investing a large portion of their fund in collectables/personal use assets, they must ensure the assets can produce income. Otherwise, it would not be an appropriate investment strategy for a super fund.

It is also important to keep in mind that the market determines how much the market is prepared to pay for an asset. If the trustee wishes the asset to be sold, they must ensure there is a market that would seek to buy the item from them. If there is no demend, the asset will be illiquid.

LEASING
Collectables and personal use assets owned by an SMSF can only be leased to an unrelated party of the fund and the lease must be on arm's length terms.

It is important to note that leasing such assets to a fund's related party is no longer permitted under the current legislation, even when an arm's length/ commercial rent is being paid. Where lease agreements with a related party were put in place prior to 1 July 2011, they had to be unwound by 1 July 2016.

It is also worth noting that a lease may include informal arrangement where SMSF property is in the possession of another person for their use or control(including where no rent is being paid in exchange for that possession). This means a fund could not display a collectable for viewing in the premises of a related party business because this arrangement gives the related party business control over the asset and, hence, becomes a lease agreement with a related party. The trustee would therefore need to be careful the asset is not used in a manner that could constitute a 'lease agreement' with a related party.

STORAGE
Storing collectables/personal use assets in a related party's private residence is prohibited. This would be the case even when the related party's private residence has professional storage facilities, such as a purpose-built wine collection or a custom-built storage facility for artwork or vehicles. 

These assets can, however, be stored in a property owned by a related party provided it is not their private residence.

INSURANCE
Collectables and personal use assets(other than sporting or social club memberships) purchased by an SMSF must be insured in the fund's name regardless of their value or insurability within seven days of acquisition. They can be insured under separate policies or collectively  under the one policy in the fund's name.

Under this rule, the asset must be separately insured from the trustee's other assets, meaning they cannot be insured as part of a trustee's home and contents insurance.

It is also important to note the legislation stipulates the fund has no option but to insure these assets. If the fund acquired such assets before 1 July 2011, the trustee must have insured them in the fund's name prior to 1 July 2016.

Note the insurance obligations do not apply to sporting or social club memberships because generally these assets cannot be insured.

It is also worth noting that the requirement to insure collectables/personal use assets within seven days of acquisition is a statutory time period under the SIS Act and SIS Regs. Consequently, if an SMSF trustee fails to meet the statutory time period by more than 14 days, it would result in a contravention, which the fund's auditor would need to report to the ATO.

SALE/TRANSFER TO A RELATED PARTY
Collectables and personal use assets can be sold or transferred to a related party of the fund provided the sale/transfer is made at a market price determined by a qualified, independent valuer.

This is the first time when a qualified independent valuer is legally imposed on SMSF trustees.

The valuer must demonstrate that they are a current member of a relevant body or trade association and are also independent. This means an external party is required to be involved in a related party transaction. This is the case even when a fund member or related party is a valuation expert in their own right.

Note, SMSFs that acquired a collectable/personal use asset before 1 July 2011 did not have to involve a qualified independent valuer if the asset was sold/transfer to a related party before 30 June 2016. 

 

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