The Australian Taxation Office (ATO) needs to provide further clarification about its decision to axe the use of cross-insurance within SMSFs as a number of issues have resulted from the move.
On 17 November the ATO announced it had updated its website with the change to cross-insurance.
Under the question “Can an SMSF take out insurance on a cross-insurance basis?” it stated: “Regulations that came into operation on 1 July 2014 do not permit cross-insurance on any new insurance products. These types of insurance arrangements are not permitted because the insured benefit will not be consistent with a condition of release in respect of the member receiving the benefit.”
Supercorp policy director Mark Ellem said cross-insurance was a significant issue that should have been given greater importance. In addition, the ATO gave no indication of its position for SMSFs that used cross-insurance between 1 July and the 17 November announcement, Ellem said.
“There are a lot of issues that need to be considered with this change, but the first one is for the ATO to provide us with a better explanation of its position,” he told selfmanagedsuper.
“A topic like this should be given at least a ruling, but it’s just a few lines so it would be great to get further clarification from the ATO.”
In addition, he said the ATO had the power to change rules with retrospective effect.
“What do clients do who have set up or entered into these limited recourse borrowing arrangements (LRBA) with a cross-insurance strategy between 1 July and 17 November?” he said.
“Where are they sitting? It might be a small number of people but there will be some.
“Then what solution is going to be used going forward for super funds?”
He said a cross-insurance strategy, which was used in in LRBAs to minimise the liquidity risk of LRBAs, was a popular one.
“Because it involves an illiquid asset or large asset, normally in the case of where a SMSF enters into an LRBA it is using most of its resources, its capital, to acquire that asset, so you end up with a single asset strategy,” he said.
“So thus an issue arises on the death of a member: how do you pay that death benefit?
“You can use insurance to mitigate that risk by paying out a death benefit in the form of a pension, but when you have an issue where it’s unrelated parties or business partners within the fund and the fund owns the business premises of the related business, you don’t have that ability to retain the deceased member’s balance in the fund. It’s got to be paid out.”
Future changes to again enable cross-insurance in SMSFs were still possible, he said.
“I think [change] could come from lobbying within the industry,” he said.
“In the meantime, we’ll probably end up having to deal with it and come up with other strategies for advising trustees on how to deal with liquidity risk for SMSFs where they are entering into an LRBA or simply have a lumpy single asset strategy.
“I personally don’t have an issue with cross-insurance used within an SMSF, particularly when it was used to deal with the issue of liquidity risk.”
He said from what was provided to the industry, the ATO had taken the view that the insurance event that had occurred, a member dying, for example, had not resulted in those insurance proceeds being paid out in accordance with the conditions of release.
“They’re tying the insurance event with the flow of the insurance proceeds,” he said.
