For the first time since the inception of the superannuation guarantee legislation twenty years ago there are now more funds tied up in SMSF’s than are tied up in the larger industry funds. At the same time bankruptcy numbers remain high, so it is timely to look at the interaction of these two elements.
Most SMSF are managed by corporate trustee, and the relevant legislation requires all members of the SMSF to be a director of that corporate trustee. But a difficulty arises when a member becomes bankrupt as the Corporations Act prohibits a bankrupt from acting as a director of any company. Further, under the superannuation legislation a bankrupt is a “disqualified person” and cannot take part in the management of a superfund.
Clearly if a bankrupt cannot be a director of the trustee of a SMSF he also cannot be a member of that fund, and his entitlements will need to be otherwise dealt with. But the good news is that there is a six month period of grace during which this issue can be addressed.
The period of grace applies only to dealing with the bankrupt’s entitlement. That is there is no period of grace in relation to acting as a director. This means that if the bankrupt is the sole member of the SMSF and the sole director of the trustee company he will need to arrange for a new director to be appointed quickly.
The most obvious way to deal with a bankrupt’s interest in a SMSF is simply to have that interest transferred to a larger fund, within the six month period of grace. This is not a transaction which the trustee in bankruptcy can frustrate, unless he or she believes that that interest includes contributions which should not have been made and which are recoverable under section 128B of the Bankruptcy Act (see our November 2008 e Update for a discussion on section 128B).
Another option is for the members entitlements to be paid out, assuming that this is permissible under the relevant deed and legislation. A superannuation payout made after bankruptcy is exempt from realisation in the bankruptcy. If the entitlement is taken as a pension , it will be included as income of the bankrupt when the trustee assesses whether or not income contributions are payable. Again the provisions of section 128B may apply in some circumstances.
Usually the shares in the trustee company will be held by the bankrupt and will therefore vest in the trustee of the bankrupt estate. But those shares will have no commercial value and the bankruptcy trustee will cooperate in a transfer to any nominated third party.
In summary those involved with SMSFs have three factors to consider:
a. A bankrupt’s entitlement in a SMSF cannot remain as part of that fund when he can no longer be a director.
b. In some circumstances all or part of the bankrupt’s interest in his super may be recoverable by the trustee if contributions have been made in voidable circumstances.
c. Lump sum payments made to a bankrupt after the start of the bankruptcy are exempt but pensions will be treated as income for income contribution purposes.