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Individual Updates (Most Recent First):

Adverse ATO Advice on Super Buy/Sell Cover

Partnership and Trust Loan Accounts

Effect of Debt Reduction Cover on Buy/Sell Cover

Prioritising Needs

Simultaneous Deaths

Mutual Will Strategies

Joe Hockey on Trusts

Tax Treatment of Self-Ownership Agreements

Vested and Indefeasible Interest

Gross or Net Value?

Henry Report

Deemed Dividends

Super Buy/Sell Cover

Bamford in the High Court

Trauma Cover in Super

Origins of Self-Ownership

Fact-Finding

Methods of Aggregation

Valuing the Business

Duty to Give Tax Advice

Equity vs Loan Capital

Horses for Courses

Commercial Debt Forgiveness

Choice of Trustee

Simplifying the Valuation Issue

Hybrid Succession Strategy

Hedge and Wedge Strategy

Sole Proprietors and Families

Free Teleconference

Simple or Complete Succession?

Contemporaneous Agreement

Geared Premium Funding

Super Fund Ownership

Business Family Will

 

 

 

 

 

 

 

ATO's Views on Super Buy/Sell Cover

 

There is considerable uncertainty with respect to the legitimacy and tax-effectiveness of Super Buy/Sell Cover.

Some of the issues concerning Super Buy/Sell Cover are discussed here.

 

SMSFD2010/1

On 21 April, 2010, the ATO released SMSFD 2010/1, which clarifies the position with respect to Trauma Cover held by a Self-Managed Superannuation Fund.

The Determination contains a Compendium of Comments, one of which casts doubt on whether a Super Buy/Sell Strategy would comply with the Sole Purpose Test.

The Compendium is a list of comments and issues raised by the public with respect to the Draft Determination.

It is questionable whether the Compendium has any material legal effect.

However, it could indicate the ATO's views if it were to be approached for a formal approval of Super Buy/Sell Cover.

 

Sole Purpose Test

The issue is whether Super Buy/Sell Cover satisfies the Sole Purpose Test.

It is accepted that the Insurance Proceeds would be paid to the Member of the SMSF (or their Nominated Beneficiary).

However, in order to relieve the Purchasers of their obligation to pay for the Member's Equity in the Business, the Business Succession Agreement must effectively credit the Insurance Proceeds against the Purchase Price that they would otherwise have had to pay.

For example, if the Sum Insured was $400K and the Purchase Price was $400K, the Agreement would credit the Insurance Proceeds against the Purchase Price, so that the Purchasers did not have to make any additional payment in return for a transfer of the Equity in the Business.

It is arguable that the crediting of the Insurance Proceeds against the Purchase Price is a significant purpose of the Super Buy/Sell Cover.

It provides a significant benefit to the Purchasers.

Indeed, it is arguable that the Cover would not have been obtained, unless it would reduce the amount payable by the Purchasers.

 

What Was the Issue Raised by a Member of the Public?

The second and third paragraphs of the Comment in Item 4 of the Compendium state as follows (I have split the paragraphs into separate sentences to make them easier to understand):

Increasingly, business succession arrangements seek to cover a business owner who suffers a trauma event.

Many trauma events will not necessarily trigger a condition of release.

We suggest that this issue be further emphasised (perhaps with a further example) so as to avoid any suggestion that it is appropriate to use trauma insurance through superannuation as a means of funding business succession arrangements.

Clarify whether the sole purpose test remains satisfied in circumstances where the business succession arrangements are specifically linked to trauma cover held through superannuation (where the beneficiary of the proceeds is the trustee of the superannuation fund).

The identity of the person who made the comment is not disclosed.

However, it must be infererred that they are an opponent of the use of Super/Buy Sell Cover, at least in the context of Trauma Buy/Sell Cover.

The comment was not made by IGS.

Presumably, it was not made on behalf of Insurance Companies like MLC, which actively promote Super Buy/Sell Cover.

 

How Did the ATO Respond?

The majority of the ATO's Responses to the Comment relate to the need to satisfy a Condition of Release, before the Insurance Proceeds may be paid to a Member.

However, the final Response is as follows:

As to business succession arrangements, the principles set out in SMSFR 2008/2 should be considered.

The ATO obviously chose not to take this opportunity to definitively express its views about Super Buy/Sell Cover generally.

This is understandable, when the main purpose of the Determination was to clarify the situation with respect to Trauma Cover in Super generally.

Nevertheless, the ATO indicated that the principles set out in SMSFR 2008/2 should be considered.

SMSFR 2008/2

SMSFR 2008/2 is a major statement of the ATO's approach to the Sole Purpose Test.

It does not contain any specific mention of Insurance Policies, Trauma Cover or Business Succession arrangements.

Therefore, it must be assumed that the ATO considers that the issue has to be determined in accordance with the general principles that it sets out with respect to the application of the Sole Purpose Test.

The Ruling contains the following overview:

"7. A strict standard of compliance is required under the sole purpose test.

"The test requires exclusivity of purpose, which is a higher standard than the maintenance of the SMSF for a dominant or principal purpose.

"8. Nevertheless, the provision by an SMSF of benefits other than those specified in subsection 62(1) that are incidental, remote or insignificant does not of itself displace an assessment that the trustee has not contravened the sole purpose test.

"As set out at paragraph 5 of this Ruling, determining whether benefits are incidental, remote or insignificant requires the circumstances surrounding the SMSF's maintenance to be viewed holistically and objectively."

The ATO is prepared to accept that some benefits can be provided to other parties that are merely incidental, remote or insignificant to the Sole Purpose and therefore are not in breach of the Test.

However, the issue is: what is merely incidental, remote or insignificant in the eyes of the ATO?

A discussion of the application of these principles to Super Buy/Sell Cover is set out here.

It must be acknowledged that a taxpayer would have an uphill battle trying to establish that the benefit of the Super Buy/Sell Cover to the Purchasers was merely incidental, remote or insignificant.

 

Conclusion

Clients and Advisers must therefore accept that there is an element of administrative and/or legislative risk attached to the practice of Super Buy/Sell (not to mention the civil and criminal consequences with respect to a breach of the Sole Purpose Test).

Given that the ATO has definitvely stated its views about the Sole Purpose Test in SMSFR 2008/2 as recently as 16 July, 2008, it is important that parties wishing to rely on this practice seek the formal views of the ATO.

 

 

Copyright: Ian Gray Solicitor

 

 

Adviser Tip

The One Page Strategy is designed to help you simplify Succession Planning.

It helps you understand your needs, it helps you quantify them, it helps you cost them, and it helps you prioritise them.

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