How to stop it all going horribly wrong with your SMSF

By Kathleen Conroy, Gadens

February 19 2015
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There are several pertinent issues for SMSF trustees in order to prevent substantial loss and punishment in the event of a dispute.

The SMSF sector is not supported by any comprehensive process for dispute resolution. One consequence of this is that where there is dispute on any matter in the conduct of a self-managed fund, everyone can lose if common sense does not prevail from the outset or if the fund trustee(s) are either ignorant of their duties or reckless as to the performance of those duties.

Trouble on the horizon

Disputes can arise from any one of a number of events when it comes to an SMSF. Common 'dispute triggers' include a member (or a relative of a member) coming under financial pressure, and a change in the relationship between members, as occurs when, for example, a member dies. These events can be particularly problematic in the life of a self-managed fund, death bringing together a group of people with legitimate standing but no absolute right to the savings of the deceased, and stress converting the fund – in the eye of the distressed – from a long-term savings vehicle to a short-term fix.

In the event of trouble, there are two closely connected directives which, arguably, should be uppermost in the mind of the trustee:

minimise loss
act impartially

Learning the hard way

The fallout when these directives are ignored is illustrated in Wooster v Morris [2013] VSC 594. Here, fund trustees had incorrectly proceeded to administer an SMSF on the basis that the trustees were not bound by what was later determined to be a binding death benefit nomination. The court was particularly disturbed by the fund trustees failing to approach the court at the outset with the core issue – whether a nomination was binding on the trustees – and then defending proceedings to the detriment of the rightful beneficiaries of that benefit. It found:

interest calculated at a penalty rate was payable to the plaintiff beneficiaries as a consequence of the failure by the trustees to pay out the benefit to the right persons at the appropriate time
the trustees were personally liable to pay that interest
the cost of the proceedings to settle should be borne by the trustee of the fund, with the director of the by then corporate trustee also being liable as she “failed to take proper account of the interests” of all beneficiaries
the trustee’s right of indemnity from the fund was lost as a consequence of the trustee’s self-interested approach to the payment of the benefit

The lessons

The “default resolution body” for dispute in the self-managed sector is the court. Recourse to the court will ultimately lead to an outcome, but will also involve significant cost. These costs will commence to mount from the outset, with the well-advised party outlaying funds to undertake the processes and steps that are either required or prudent to be taken when considering court action.

In these circumstances, fund members should consider hardwiring into the fund deed a mechanism to be followed for the resolution of disputes. This is not a golden “fix” but, at the least, will provide some level of protection to the vulnerable or weaker disputant and, to be blunt, will help to protect trustees from themselves.

At the other end of the line, if it does “all go horribly wrong” a fund trustee should not be surprised to be told by the court that a fund trustee who acts as a protagonist for the trustee or some beneficiaries only is acting in breach of trust (if not the strict letter of superannuation law). More formally, the trustee should expect to be told that the trustee has a “paramount” duty “to exercise [its] powers in the best interests of the present and future beneficiaries of the trust, holding the scales impartially between different classes of beneficiaries” – and failure to do so will not end well for the trustee.

Trust law is complex and it is unrealistically purist to require or expect members of a self-managed fund to have a detailed knowledge of it. It is, though, the context for those covenants in the superannuation legislation taken to be contained in the rules for all self-managed funds. As a consequence, at the least trustees should remember that “with great power comes great responsibility” and failing to discharge that responsibility by reference to equitable principles will result in the transgressor being exposed to significant pain and loss.

Kathleen Conroy, partner, Gadens

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Retirement