Valuing assets to market in SMSFs

My client doesn't understand why the assets in his SMSF need to be valued to market every 30 June and is refusing to obtain evidence for the auditor.  Can you help me explain the risks he's taking?

First and foremost, the need to value assets to market value at 30 June each year is a requirement of the SIS Act and Regulations. Failure to account for the fund’s assets at market value (or provide the fund’s auditor with sufficient evidence to demonstrate the trustees have done so) is a breach of the Act and Regulations.

Regularly valuing assets to market in the fund’s financial statements and SMSF Annual Return also allows the ATO and/or the auditor to:

• assess a fund’s compliance with various regulatory requirements including the 5% in-house asset limit and the minimum payment requirements of pension funds,
• assess a member’s and fund’s eligibility for various tax concessions based on their total super balance, and
• maintain the integrity of the transfer balance cap system by ensuring a member’s balance is not understated when they begin receiving retirement phase pensions.

When an auditor is not satisfied with the evidence provided by the trustee and the amounts involved are material, they are required to lodge an Auditor Contravention Report with the ATO. The ATO may then decide to review the fund with the potential for penalties on the trustee.

Outside of simply complying with the above requirements, there are a number of other risks associated with not valuing a fund’s assets at market value as the role of trustee of an SMSF comes with many responsibilities.

One of these trustee responsibilities is to act in the best financial interests of the members. Trustees who aren’t acting in the best financial interests of members leave themselves open to being sued by any members/beneficiaries who suffer a loss.

One way a trustee can make sure they are managing the fund’s investments in the best financial interests of the members is to review the value of those investments every year.

•  members are receiving pensions – if the value of the fund’s assets is understated, the trustee may fail to pay the required minimum pension with the usual tax consequences (ie loss of the tax exemption on the fund’s investment income),
• members are planning to utilise their carry forward concessional contributions cap amounts or make non-concessional contributions – if the value of the fund’s assets is understated, the member may incorrectly think their caps are higher than they actually are,
• members are planning on using the work test exempt contribution rules – if the value of the fund’s assets is understated, the member may incorrectly think they are eligible to make contributions or claim tax deductions they aren’t, or
• the fund has in-house assets – if the value of the fund’s assets is not being regularly reviewed, the trustee can’t assess its compliance with the 5% limit and may be forced to sell down assets unnecessarily.

In the absence of an Auditor Contravention Report, how would the ATO know a trustee had not been regularly reviewing their asset values? Large spikes in the asset values reported in the SMSF Annual Return after years of static values are very easy to identify and we’ve seen SMSFs selected for review by the ATO for that very reason.

And for those assets which have no known value? Like shares in private companies where the trustee has no control over the company and no ability to force the directors to provide an up to date valuation? Well, the availability of up to date information is one of the things SMSF trustees need to take into account when making investment decisions. An SMSF is not always the right structure for these sorts of investments.