ATO cracks down on rich older SMSF members avoiding tax

The Tax Office is cracking down on what it’s described as “contrived arrangements” that allow hundreds of wealthy individuals with self-managed superannuation funds (SMSFs) to pay no tax on income from shares.

Cases are still being reviewed and it’s unclear how much tax revenue may be at stake.

But the Australian Taxation Office said 200 individuals have been identified as using such structures, and more than 25 private rulings have been issued.

All of these rulings have been in favour of the ATO, resulting in new tax bills for the individuals involved, described in tax parlance as the “members” of their individual super funds.

“We are closely scrutinising SMSF members suspected of avoiding their tax responsibilities by channelling company profits through their SMSF,” Australian Taxation Office deputy commissioner Tim Dyce said.

The ATO says members of self-managed super funds (SMSF) have been channelling dividends from shares in private companies through their super funds to pay no tax.

The arrangements make use of franking credits, which stop a double taxation of company profits: Tax paid by the company translates into a tax credit on dividends for its shareholders.

In the tax structures targeted by the ATO, a private company with accumulated profits channels franked dividends to self-managed super funds, instead of to its original shareholders.

The ATO is concerned that such “contrived arrangements” are being entered into by individuals – typically SMSF members approaching retirement – so that dividends subsequently flow to, and then are exempt from income tax because they are supporting pensions, which are tax-free on retirement.

The tax office has likened the practice to “dividend stripping” – a process in which investors sell a company’s shares to a third party just before dividends are paid and then buy them back after at the lower ex-dividend price, effectively swapping their dividend for a capital gain which may incur lower tax.

The SMSFs’ “arrangement has features of dividend stripping which could lead to the ATO cancelling any tax benefit for the transferring shareholder and/or denying the SMSF the franking credit tax offset,” My Dyce said.

“The ATO may undertake compliance activity seeking to apply the taxation and superannuation provisions, including anti-avoidance rules, to such arrangements,” he said.

“We encourage SMSF members who think they may be involved in such arrangements to contact us and make a voluntary disclosure or seek a private ruling from us.”

He said the ATO would be engaging with affected SMSF trustees and members to develop “pragmatic options to address the tax and superannuation consequences of the arrangement”.

The ATO would also consult on the application of relevant anti-avoidance provisions and consider a public ruling on such arrangements.

The ATO warning comes after Assistant Treasurer Josh Frydenberg said the government would crack down on borrowing by SMSFs to buy investment properties.

The head of the financial systems inquiry David Murray has warned that this was contributing to higher house prices, creating risk for the financial system and entire economy.

“You don’t want to see people have their retirement income savings so highly leveraged that they end up being severely damaged as result of another financial crisis,” Mr Frydenberg told the The Australian Financial Review Banking & Wealth Summit in Sydney on Wednesday.