The question of whether a self-managed superannuation fund (SMSF) pension must be paid using cash has caused much debate in the SMSF community over the years. Many SMSF trustees wish to make pension payments using noncash assets, such as listed securities or real estate. Such non-cash payments are called “in specie” payments. This article seeks to dispel the myths surrounding the debate and provide clarity on the issue.
Case study 1 — the advantages of in specie pension payments
Jack is 67 years old and is receiving an account-based pension from his SMSF. The pension is supported by $1.5 million worth of listed securities. The SMSF trustee is required to make minimum pension payments in the 2010 financial year of $37,500 (that is, $1.5 million — 2.5 per cent). The SMSF trustee calculates that by the time it pays for its administrative fees, et cetera, it may not have enough free cash to make the minimum pension payments. The SMSF trustee now has a choice. It can pay Jack his pension by way of off-market transfer of listed securities (that is, in specie). Alternatively, it can sell the listed securities on the open market and use the proceeds received to pay Jack his pension. Both the SMSF trustee and Jack prefer that the pension is paid in specie as it saves on brokerage fees. However, the SMSF trustee’s first priority is to fully comply with the law and it seeks clarification on the permissibility of in specie pension payments.
Why the controversy arises: what the law says
Rules regarding the payment of superannuation benefits are contained in part 6 of the Superannuation Industry (Supervision) Regulations 1994 (Cth). There, it is stated quite expressly that the term lump sum “includes an asset”. However, there is no equivalent to say that the term “pension payment” includes an asset. Some have interpreted this silence to mean that it is only a lump sum that can be in specie and that a pension payment must be in cash. However, this is only an interpretation and there is certainly no clear law on the point.
It is relevant to note the principle that a taxpayer should not be subjected to the detriment of a taxation provision unless the provision is clear and unambiguous (Anderson v Commissioner of Taxes (Vic) (1937) 57 CLR 233, 243). If there is any ambiguity, the matter should be resolved in favour of the taxpayer (Liquor Administration Board (NSW) v Wolfe (1993) 32 NSWLR 328, 329). Strictly speaking, the payment of benefits rules are prudential provisions and not taxation provisions.
But this principle has been applied in an SMSF context in the past (Re XPMX and FCT [2008] AATA 981 [21]). Accordingly, hopefully this principle would have application to decide the controversy in favour of the SMSF trustee.
The regulator’s view
As a result of the definition of lump sum, the Australian Prudential Regulation Authority (APRA) has taken the view that a pension cannot be paid in specie. In Superannuation Circular No. I.C.2 Payment Standards for Regulated Superannuation Funds, APRA states: “Where permitted under the fund’s governing rules, a lump sum payment may be in the form of “cash” or in specie. The definition of lump sum allows a lump sum payment to be paid in the form of cash or in specie.
An in specie payment is made with fund assets (eg shares in a publicly listed company) rather than money. When making an in specie payment, trustees must be able to substantiate the value of the relevant asset or assets for both SIS and taxation purposes. Payments cannot be paid in specie where … the payment is in respect of a pension …” Naturally, APRA is not the regulator of SMSFs. It is the Commissioner of Taxation (that is, the Australian Taxation Office) who is the regulator of SMSFs.
The last official comment from the ATO regarding in specie pension payments was in 2005 in a meeting of the National Tax Liaison Group (Superannuation Sub-Committee): “Members asked why ATOID 2002/698 was withdrawn and questioned whether a fund can pay pensions by making an in specie distribution of a fund asset – for example, a unit in a unit trust or shares in a company. “The Tax Office responded that the particular ATOID was capable of being seen as inconsistent with APRA’s Superannuation Circular No. I.C.2 which deals with the payment standards for regulated superannuation funds.
Paragraph 9 states: “A benefit is cashed when the beneficiary accepts the money (or, in the case of lump sums only, other assets representing the benefit), banks a cheque which is subsequently honoured or receives a credit by way of an electronic transfer from a fund in payment of benefits.” “Some members expressed the view that the regulations specifically recognise the payment of lump sums by asset transfer – they do not prohibit the payment of a pension by an in specie transfer of fund assets.” Accordingly, it is suggested – although not expressly stated – that the ATO will try to be consistent with the APRA proposition.
Did the law change on July 1, 2007?
Some have suggested that certain changes to the income tax legislation that took effect from July 1, 2007 altered the position. However, the income tax legislation only describes what tax implications various actions attract. It does not provide what an SMSF trustee may or may not do. It is the prudential legislation (for example, the Superannuation Industry (Supervision) Regulations 1994) that does this. The prudential legislation in respect of in specie pension payments has been constant since the 1990s. Accordingly, the law did not change on July 1, 2007.
Watch this space
The ATO is planning to release a draft SMSF ruling on May 5, 2010. The official reason for this ruling’s inclusion in the ATO ruling program is to “clarify the Tax Office’s view on which forms of payments can satisfy the benefit payment standards contained in the SISR”. Hopefully, this will provide some clarity on the ATO’s view. Although a legal argument can be made to say that SMSF pensions can be paid in specie, for the time being, the ATO might take issue with this.
Therefore, caution is advised and pensions should only be paid in cash, not in specie. Hopefully though, further clarification will be received shortly by way of an ATO SMSF ruling.
Bryce Figot is a senior associate at law firm DBA Lawyers – www.dbalawyers.com.au
