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SMSF STRATEGY GUIDE

THE SOLE PURPOSE TEST

BACKGROUND

When it comes to maintaining a complying SMSF, the sole purpose test is the most important issue to be understood. The sole purpose test seeks to ensure that SMSFs are maintained for the purpose of providing benefits to members upon their retirement, or their dependents in the event of the member’s death, rather than providing current day benefits prior to a condition of release being reached. If trustees do not comply with the sole purpose test, you run the risk of your SMSF being ineligible for the taxation concessions available to a complying superannuation funds, along with significant penalties.

WHAT IS IT

The sole purpose test has both core and ancillary purposes. A SMSF

must be maintained for at least one core purpose OR at least one core

purpose and one or more ancillary purposes. However, a SMSF can’t be

maintained for one or more ancillary purposes only.

 

An SMSF must be maintained for at least one of the following core

purposes:
 

  • to pay benefits to members on or after retirement from gainful employment, or

  • to pay benefits to members when they have reached a prescribed age, or

  • to pay benefits to beneficiaries on the member’s death.

 

Ancillary purposes for maintaining a SMSF include:
 

  • to pay benefits to members where employment is terminated due to ill health or disability

  • to pay benefits to members who ceased employment with an employer who, at any time, contributed to the fund for that member

  • other ancillary purposes approved in writing by the Australian Prudential Regulation Authority. This includes providing benefits due to financial hardship and / or on compassionate grounds.

EXAMPLE

Contravening the sole purpose test is a serious issue - probably the

most serious for a trustee.

 

To determine if a fund has contravened the sole purpose test, one must look at the character and purpose of the fund’s investments. In particular, are they providing any financial assistance or benefit to another party who is not a member or beneficiary of the SMSF.

 

Consider a commonly sited problem example of where the SMSF owns a beach house, and when the members of the SMSF go on holiday, and they stay in the beach house.

 

This is the classic example of a breach of the sole purpose test, as a current benefit is being gained from the use of the asset. The bottom line is that care must always be taken. Investment transactions need to always be examined properly via the sole purpose test to ensure that compliance is maintained, and your SMSF continues to get the tax concessions available for complying funds whilst avoiding penalties.