The sole purpose test in section 62 of the Superannuation Industry (Supervision) Act 1993 (the SIS Act), which requires that superannuation funds be conducted solely for core and ancillary purposes (superannuation purposes) with core purposes including:
- funding for retirement from gainful employment of a member;
- a member reaching a prescribed age; or
- the death of a member,
is fundamental to the integrity of Australia’s tax-privileged and compulsory superannuation system.
The sole in sole purpose
In practice section 62 is a difficult provision to apply at the margin because of the ostensible purity of purpose of conduct of a superannuation fund to meet the sole purpose standard, or more precisely, a collection of allowed purposes.
Between commencement of the SIS Act in 1993 and December 2017 the meaning and scope of “sole” in the sole purpose test was not specifically considered in reported court cases.
The opening round
In Case 43/95, 1995 ATC 374 (the Swiss Chalet Case) the Administrative Appeals Tribunal considered whether a superannuation fund had met the sole purpose test where the fund had invested in:
- shares which enabled access to a golf club for; and
- a Swiss chalet which earned income for the family trust of:
the managing director of the employer-sponsor of the fund. The AAT found that the fund had been conducted for purposes other than superannuation purposes and thus the fund failed the sole purpose test.
The latest play
The Federal Court has now considered “sole” in the sole purpose test and referred, with approval, to the reasoning in the Swiss Chalet Case in Aussiegolfa Pty Ltd (Trustee) v Commissioner of Taxation  FCA 1525. Given the significance of the golf club access of the managing director in the Swiss Chalet Case and the allusion to golf in the name of the trustee of the superannuation fund, one might think that the trustee was looking for the attention and the view of the Commissioner of Taxation, as the regulator of self managed superannuation funds, on the purposes of Aussiegolfa Pty Ltd.
A provisional ball?
Indeed, the facts in Aussiegolfa indicate the trustee sought to test whether residential properties held by self-managed superannuation funds could be used by related parties under the SIS Act.
Facts in Aussiegolfa
In Aussiegolfa the trustee was the trustee of the personal SMSF of the Victorian State Manager of DomaCom Australia Ltd., a managed investment scheme regulated by the Australian Securities and Investments Commission. The trustee of the SMSF and the family of the member of the SMSF invested in units in DomaCom which were directed to and funded investment by DomaCom in a student residential accommodation to be leased to the daughter of the member of the SMSF who was a university student. DomaCom was hopeful that they had initiated an effective and attractive SMSF investment strategy.
Investment in an in-house asset?
The first SIS Act hurdle for the SMSF trustee to overcome in Aussiegolfa was whether there was an investment in a related trust causing the investment to be an in-house asset to which section 82 of the SIS Act would apply (with or without a determination by the Commissioner that the investment was an in-house asset under sub-section 71(4) of the SIS Act).
The investment by the SMSF trustee was in units in DomaCom, a managed investment trust. The Federal Court worked its way through the terms of the constitution of DomaCom, and amendments of it, and a series of product disclosure statements to determine the basis on which the SMSF trustee had invested in DomaCom at the time of its investment. Pagone J. found that the trustee had invested in a sub-trust which was a discrete trust and so a related trust of the SMSF for SIS Act purposes.
Not out of bounds
That finding was despite equivocal provisions in the applicable terms of the constitution of DomaCom which sought to reinforce, unsuccessfully to Pagone J., that the units in DomaCom did not give a unit holder, whose investment had been directed to certain assets and whose income and entitlements were ring-fenced to those assets, an interest in those particular assets and that DomaCom was one indivisible trust of many assets.
It followed from this framing of what was the trust by the Federal Court that the SMSF trustee could not rely on the widely held unit trust exclusion in paragraph 71(1)(h) of the SIS Act from being a related trust and an in-house asset.
… and hitting the sole purpose red flag
Turning to the sole purpose issue, Pagone J. accepted the reasoning in the Swiss Chalet Case and applied authority which explains how a “sole” purpose requirement is to be interpreted and applied. Broadly, Pagone J. concluded that:
- the inquiry into sole purpose is a question of fact;
- the inquiry is not an inquiry into motive but into the “end sought to be accomplished”;
- the sole purpose requirement precludes there being any other purpose , however minor; and
- there may be facts which could suggest pursuit of other purposes, if those facts were considered separately, but these do not necessarily connote other purposes if they show pursuit for the required sole purpose.
In Aussiegolfa Pagone J. held that providing housing to the daughter of the member of the SMSF was not within and inconsistent with superannuation purposes and so the SMSF failed the sole purpose test.
A two shot penalty
The trustee of the SMSF in Aussiegolfa had hoped that its investment in units in DomaCom would not jeopardise its status as a complying superannuation fund. But due to the decision of the Federal Court:
- the units are an in-house asset comprising more than 5% of the assets of the SMSF so section 82 can be applied to deprive the SMSF of complying superannuation fund status if the level of the in-house assets of the SMSF is not brought to 5% or under before the end of the income year following the income year of acquisition of the in-house asset; and
- the SMSF can be made non-complying because it has failed the sole purpose test in section 62;
and various other civil and criminal penalties can potentially be applied for both of the SMSF’s breaches of the SIS Act by the Commissioner of Taxation.
An uncertain lie in the rough?
Pagone J. observed in Aussiegolfa that there may be circumstances where a lease to a related party would not breach the sole purpose test but, in Aussiegolfa, he observed that the evidence was that the purpose of the investment through DomaCom was, in part, for another purpose of providing housing to the daughter of the member of the SMSF. This is not a complete reassurance to other SMSFs that invest in business real property to lease to a related party. That investment can be excluded from being an in house asset under paragraph 71(1)(g) of the SIS Act but does it follow that the investment is in the circumstances which would not breach the sole purpose test Pagone J. describes? Can we safely infer that an investment that attracts a statutory exclusion from being an in-house asset should be excluded from failing the sole purpose test too?
Checking my card
I have paraphrased particularly in describing how Pagone J. applied the sole purpose test. I also take responsibility for the golfing headings through this post which I appreciate will be vague and wearisome to those lucky enough to be non-golfers.