What Happens to My SMSF if I Lose Capacity?

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Earlier this month the Australian Taxation Office (ATO) released its September 2023 quarterly SMSF report which estimates there are 611,000 SMSFs holding $876 billion in assets with over 462,000 members aged 65 and over. With an average fund balance of $1.4m and average member balance of $745,000, it is important that trustees understand what would happen to their SMSF in the event of capacity issues and cognitive impairment of a member or trustee.

For example, trustees and/or their advisers may notice changes where one member may find it difficult to understand matters surrounding the running of their SMSF, their decision-making process and understanding the advice being provided. This can be difficult to spot and there is no one definition of capacity so having a contingency plan in place is best practice.

So what should I do if there are signs of lost capacity? Firstly, don’t panic.

Generally mental decline occurs over a long period of time and such factors are beyond our control and no fault of our own. The first step would be to speak with your accountant/administrator or financial adviser about your concerns so steps can be taken before it is too late.

What defines a loss of capacity?

Capacity can be somewhat of a chameleon and is context specific. That is:

  • there is the presumption of capacity until there is evidence to the contrary;
  • the context of capacity is determined by the decision, time and domain (includes personal and lifestyle, finances and healthcare);
  • it’s not just one characteristic (eg. poor memory, low IQ, silly decisions). It will depend on a number of factors.

What happens when a member loses capacity?

Where a member becomes incapacitated this means that from that day onwards they cannot remain as a trustee of an SMSF or a director of a company that acts as trustee of a SMSF. As the incapacitated person remains a member of the SMSF, but cannot be a trustee or director, the SMSF fails the basic conditions in section 17A SIS Act.

The first step would be to check the fund’s governing rules and/or the company constitution.

If the fund has a corporate trustee, most company constitutions automatically remove any incapacitated director as they are no longer fit and capable to fulfil their duties. Similarly, most SMSF trust deeds also have this automatic removal in place.

Can I appoint an Enduring Power of Attorney to act in my place?

Yes, but this needs to have been done prior to the member losing capacity. By having a valid enduring power of attorney (“EPOA”) in place this allows the attorney to make decisions on behalf of the incapacitated member. However, whilst an EPOA allows for these personal financial decisions to occur, it doesn’t automatically cover SMSFs.

That is, the original (incapacitated) trustee needs to be formally replaced by the attorney by way of appointment. In most cases, the fund’s trust deed allows for this. Only then can the attorney undertake SMSF trustee duties including signing financial statements and tax returns and paying member benefits.

What happens if there is no Enduring Power of Attorney?

If there is no valid EPOA in place or there is no suitable person to act, then an application can be made to the NSW Civil and Administrative Tribunal (or the state equivalent) and a financial administrator appointed.

Only then can the administrator become the trustee or director of the trustee company in the place of the member. The benefit of this is the control of the SMSF remains with the family of the incapacitated member and the member does not have to roll out their super.

Ideally this topic of discussion is had when the SMSF is established and at least annually when the accounts are prepared and/or financial review takes place so that proactive measures are put in place, rather than reactive ones. By doing so, the SMSF and its members have a “back-up plan” and continuity of the fund.

If you have any concerns in this regard, please do not hesitate to reach out and contact us.

Author: Anna Wong – Senior SMSF Manager at Premier SMSF Solutions

*Correct as of 27 February 2024

*Disclaimer – this article has been produced by Kreston Stanley Williamson as a service to its clients and associates. The information contained in the article is for general comment only and is not intended to be advice on any particular matter. Before acting on any areas contained in this article, it is imperative you seek specific advice relating to your particular circumstances. Liability is limited by a scheme approved under professional standards legislation.

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