Audit warning — ‘incorrect’ withdrawals

Each year we see numerous examples of SMSFs incorrectly transferring money to their members. 

These may include where the trustee mistakenly believed the member had met a condition of release, and where the trustee simply made an error by transferring money from an SMSF account instead of from one of their own.  SMSFs with these incorrect withdrawals generally present them in the financial statements as either a loan to the member, or a sundry debtor to be repaid.

Subject to materiality, we will generally qualify Part B of our audit report and lodge an Auditor Contravention Report reporting either a loan to member (section 65), or a breach of the requirement to keep money and assets separate from those of the trustee personally (regulation 4.09A).  In most cases, these breaches are reported as being rectified and nothing of consequence occurs. 

The accounting methods outlined above operate on the proviso that incorrect withdrawals can be repaid but is this assumption valid? 

Under section 304.10 of the Income Tax Assessment Act 1997 (ITAA 1997), superannuation benefits received by a SMSF member, where the person was not entitled to receive a benefit under the payment standards, are assessable income.  This would appear definitive however, also included in the legislation is that the ATO does have discretion to advise a taxpayer the superannuation benefits withdrawn do not have to be included in assessable income.

So, when will the ATO exercise this discretion and should trustees pre-empt that ATO discretion will be given, when accounting for incorrect withdrawals?  The ATO is looking to provide guidance to their staff in relation to the first question in PS LA 2021/D3.

The good news from the draft Practice Statement is that where there have been genuine errors out of a trustee's control discretion will most likely be exercised. This would include, for example, where a bank made an error and paid more from a transition to retirement pension than was requested by the member.  However, the not so good news for SMSF trustees is that the draft guidance states that a factor that will have little or no weight when deciding whether to exercise the discretion includes "attempted rectification of the transaction by paying an amount equivalent to the superannuation benefit to the superannuation fund immediately or shortly after receiving the benefit."

Pleasingly CAANZ and CPAA have provided a submission on the draft Practice Statement and said discretion should be applied where the early release was accidental, and a subsequent effort was made to correct the mistake.  We now await the final version of the Practice Statement and where the ATO's final position on the issue will fall is unknown.  So, in the meantime, all trustees should be extra vigilant about the circumstances surrounding any withdrawals from their SMSF's bank account because if they get it wrong, they could be faced with an adverse tax outcome.

Baumgartner Super's audit process is led by the collective knowledge of our team of SMSF industry leaders. Contact our SMSF auditors on 1300 04 SMSF (1300 047 673).