Having the SMSF trust deed updated automatically can greatly assist trustees in satisfying their compliance requirements, writes Peter Townsend.
Despite the best efforts of their critics, automatically updated SMSF trust deeds continue to provide a powerful tool for trustee and deed compliance, to the point where it is now possible to argue that recent amendments to the Superannuation (Industry) Supervision (SIS) Act 1993 may mean a trustee is in danger of breaching their trustee duty by not adopting such a process.
One of the more innovative developments in the maintenance and administration of SMSFs has been the development of auto-updating deed services. Essentially these services provide a means by which the rules of an SMSF can be updated as required by the changes to law, regulation and SMSF practice as opposed to when the trustee thinks about it and/or when the adviser can convince the trustee to update. Typically the update is effected by a third party exercising an amendment power in relation to the SMSF. While many advisers and SMSF trustees appreciate the end result of such a service, and the much reduced cost compared to a specially drafted amendment deed, concerns have been raised that such a service is inconsistent with the SIS Act and, in particular, inconsistent with the duties the SIS Act imposes on trustees and directors of corporate trustees. A careful consideration of the issues in fact shows the reverse is true.
While the advantages of auto-updating services are acknowledged, such as cost effectiveness, specialist quality, timeliness and consistency, those advantages would not overcome breaches of the SIS Act. So the substantive issue must be addressed: do auto-updating services breach the SIS Act.
To answer that question we need to consider the application of the due care, best interests and the no-fettering duties imposed, so far as SMSFs are concerned, by the new paragraphs (b), (c) and (e) of section 52B(2) of the SIS Act.
Whether the due care duty is breached
The due care duty is, as of 1 July 2013, imposed directly on the trustee by section 52B(2)(b). In essence the duty requires the trustee to exercise “in relation to all matters affecting the fund, the same degree of care, skill and diligence, as an ordinary prudent person would exercise in dealing with the property of another for whom they (the trustee) felt morally bound to provide”. Entering into an auto-updating service is obviously a matter in respect of which the trustee is required to exercise due care. To discharge this duty the trustee would have to consider:
- whether the rules of the fund require updating,
- whether the updating services would achieve the purpose,
- whether there are alternative services to automatic updating, and finally
- whether there are any relevant negatives to using such a service.
Do the rules require updating?
The case for the rules of an SMSF to be kept up to date is easily made. Over the past few years a number of significant changes have been made to superannuation that have had an impact on the rules of the fund, such as the introduction of transition-to-retirement pensions, the removal of retirement as a mandatory cashing event, the introduction of limited recourse borrowing arrangements (LRBA)and the binding death benefit nominations. Indeed, one industry commentator has estimated in the past year there were some 95 changes to law, regulation and practice that could require an amendment to an SMSF deed.
The Australian Taxation Office (ATO) has consistently reminded trustees that their actions must be specifically empowered by their trust deed.
Does the auto-updating service achieve the result?
Given the need for keeping the rules up to date has been established, the next consideration is whether the automatic updating service is effective. Do the updates actually take place, rather than a promise of an update if and when the occasion requires, and are the updates prepared by experienced SMSF lawyers? These are questions the trustees, assisted by their advisers, must answer.
Are there alternatives to auto-updating services?
The answer is, of course, yes. The alternatives are:
- doing nothing in the mistaken belief that the old deed is sufficient,
- initiating contact with a lawyer to prepare a line-by-line amendment deed,
- simply seeking a replacement deed (to avoid the time and expense of line-by-line amendments), or
- subscribing to an opt-in update service and updating at a time of the trustee’s choosing.
Apart from the first, which is an heroic and unlikely circumstance that only an expert SMSF adviser could assess anyway, all the alternatives are effective.
Are there any negatives to using an auto-updating service?
Critics of auto-updates argue:
- the trustee will not have specifically requested the update, and
- the changes made may not be relevant to their current circumstances.
These reservations are misconceived. The important issue is whether the changes made permit the trustee to undertake the transactions they may wish to undertake now or in the future and whether such changes are acceptable to third parties that have dealings with the fund, such as a lender in an LRBA.
It is clear the use of auto-updating services meets the due care duty. Indeed, failing to update may constitute a breach of the trustee’s duty of due care.
Whether the best interest duty is breached
The best interests duty is, as of 1 July 2013, imposed directly on the trustee by section 52B(2)(c). In essence, the duty requires the trustee to “perform the trustee’s duties and exercise the trustee’s powers in the best interests of the beneficiaries”.
Essentially this is a duty to perform their role and exercise their powers to further the objectives for which the SMSF was established: namely the provision of tax-advantaged retirement savings. In the context of SMSF compliance, the trustees will be discharging their duties and exercising their powers in the best interests of the members through the fund acquiring the status of a complying superannuation fund and retaining that status.
Entering into an arrangement whereby the rules of the fund are kept up to date is an effective means of discharging this duty.
Without having an arrangement for auto-updates, it could be argued the trustees are not actively discharging this duty. Merely having the option to choose annual updates will not discharge this duty if trustees simply decline the update offer when the rules require updating.
Whether the no-fettering duty is breached
The no-fettering duty is, as of 1 July 2013, imposed directly on the trustee by section 52B(2)(e). Essentially this duty requires the trustee “not to enter into any contract, or do anything else, that would prevent the trustee from, or hinder the trustee in, properly performing or exercising the trustee’s functions and powers”. Two questions arise: what constitutes the proper performance of the trustee’s duties in relation to rules of the fund and how (if at all) does the trustee’s participation in an automatic updating service prevent or hinder the trustee in properly performing its function in relation to the rules of the fund?
An automatic updating service generally operates by a third party exercising an amendment power conferred on the third party by the fund’s deed. The trustee and the operator of the updating service will have entered into a contract for the provision of the service, specifying the trustees can terminate the service at any time.
What is the proper performance of the trustee’s duties in relation to the rules of the fund? Super funds are highly regulated and super is a policy area of keen and constant interest to the government.
Naturally, therefore, there are constant policy changes that, in many instances, give rise to the need to change the governing rules. Additionally, changes to the governing rules may arise from the requirements of third parties (for example, banks for those funds engaging in an LRBA) or changed super strategies such as unallocated contribution accounts.
Trustee should retain practical control
Proper exercise of duty would entail the trustees arranging for a legal review of their fund’s governing rules if and when there are significant legislative changes, when the trustees are entering into a significant transaction or on a periodic basis. Automatic updating service providers arrange for a legal review of the governing rules on a regular basis.
One service provider undertakes a legal audit of superannuation policy and law every two months, with the review undertaken by a qualified legal practitioner who exclusively practices in that area. The audit requires developments – legislative, regulatory and case law/industry practice developments – to be identified, considered and a decision made whether the governing rules require updating. If governing rules are required or should be updated, then they are automatically updated via the relevant updating process.
An appropriate automatic updating process should give the trustees control by means of a veto power over any proposed change to the governing rules. The veto power could be in the form of either an opt-in arrangement, where the trustees must actively decide to effect the change, or an opt-out arrangement, where the trustees only have to take action if they do not want the change made. The trustee therefore has active practical control of the process through both the power of veto and the power to terminate service at any time.
These arrangements do not prevent or hinder the trustees from performing their functions, but actually enhance their ability to do so. To argue otherwise is like saying the trustee has fettered themselves by leasing trust property, thereby relinquishing possession of that property for the term of the lease; clearly an inappropriate argument.
Extent of fettering needs to be balanced against other duties
Considered in this light, there is no inconsistency between the trustee using the automatic updating service and their no-fettering duty. Looked at from another viewpoint, if trustees did not have any updating service arrangement, the trustees may not have breached the no-fettering duty as the trustees have done nothing. However, the trustees may well have breached their due care and best interests duties.
Conclusion
Automatic updating services can greatly assist trustees of an SMSF to comply with the trustee duties, as set out in section 52B(2), now imposed directly on trustees. Indeed, it may now constitute a breach of their trustee duties for trustees to refuse to update their deeds on the grounds of cost or inconvenience.
