SMSFs by the letters

It can be hard to argue that having this more client-centric approach is a bad thing.  Unfortunately though, the difficulty has arisen through trying to find the best way to implement these requirements in practice.

Before we get to what would be required under the regime, we have to start with the question of whether the DDO regime actually applies to SMSFs or not.  The broad requirement for the DDO regime to have application is that a product issuer is captured and subject to the regime if they are required to issue a Product Disclosure Statement (PDS) with their product.

Now, this is where things can become complicated.  In general, under Section 1012B of the Corporations Act, a PDS must be provided when an interest in a financial product is offered.  This technically would include the acquisition of an interest in an SMSF by becoming a member of the fund.

However, there is then an exemption available under Section 1012D(2A) for SMSF situations, which states that a PDS is not required if you “believe on reasonable grounds that the client has received, or has, and knows that they have, access to, all of the information that the Product Disclosure Statement would be required to contain.”

Now, in practice, at least with the establishment of the SMSF initially, many advisers have relied on this exemption from the requirement to provide a PDS.  After all, how do you prepare a PDS for something that actually doesn’t even exist at the time of the recommendation itself, given that the SMSF only comes into existence once the trust deed is executed?

In this sort of situation, it would be reasonable to conclude that, given no PDS has been provided, the DDO obligations would also not apply.

However, what if a PDS did exist for the SMSF?  As a result of the PDS requirements potentially applying to SMSFs, some SMSF deed providers prepared PDS documentation that accompanied the trust deeds to ensure that the requirements were being met.  In these instances, given that a PDS exists and has been issued, it would be hard to argue that the DDO provisions do not apply to those funds.

Further, whilst the PDS exemption may have been relied upon when the SMSF was initially set up, would it still have the same level of application in the future when, as an example, new members are admitted to the SMSF?  Would it be reasonable to assume that the prospective member has access to all the information contained in the PDS for that SMSF?  The answer to this question becomes important as it addresses not only whether a PDS is required or not, but also whether the DDO provisions will then start to apply.

Now, let’s consider the requirements that apply where a PDS exists (or is required) for the SMSF and therefore the DDO provisions apply.  The trustees of the SMSF are essentially the “designers” of the product, and are subject to the DDO regime, and therefore have the requirement to prepare and issue a target market determination (TMD).

The TMD sets out who the product is suitable for – in this case, a determination of who would be suitable as a member of the SMSF.  Where a member makes a complaint about the product, this needs to be notified to the product issuer.  So, essentially, the SMSF member complains to their adviser about the SMSF (with these complaints not focussed on investment performance), and the adviser then has to tell the same person (together with their co-trustees of the SMSF) about the complaint.

As an adviser, should you consider TMDs as part of your advice process? The short answer is yes.  The “reasonable steps” approach, which the DDO regime normally applies, in fact does not apply to financial advisers. This is because it is overridden by an adviser’s best interests obligations, which set higher standards than the reasonable steps approach. However, you should still have regard to a TMD, as part of determining if the product is suitable.  As an adviser, you also should not be recommending a product to a client where a TMD doesn’t exist, and where you have reasonable grounds to believe that one should exist – which takes us back to the question of whether a PDS is required or not.

So, how do we deal to this conundrum, which essentially becomes a circular argument?  Unfortunately, at this point, there is no clarity from the legislators or regulators about how the DDO regime does or doesn’t apply, in the context of SMSFs.  However, ASIC has noted that, provided reasonable steps are being taken to comply with the requirements, they are unlikely to take enforcement action at this early stage of the DDO regime, if an entity is not complying with the strict requirements of the regime.  This will hopefully give time for clarity (and perhaps sanity) to prevail.

Application of the DIN regime to SMSFs

Similar to the DDO regime, the purpose behind the DIN (or director identification number) regime is sound.  It provides traceability of directors in Australian companies, making it easier to track directors where suspicious activities have been identified, to prevent directors from closing insolvent companies with large debts and starting new companies, and so on.

In most companies, other than a few extra requirements, the commencement of the DIN regime from 1 November 2021 will impose few additional requirements.  Indeed, the requirement to actually obtain a DIN rests with each individual director, not the company, although the company will no doubt be required to maintain records of each director’s DIN.

However, in the SMSF space, there is the potential for this create additional delays, or add complexity to certain events.

All existing directors (as at 31 October 2021) will have 12 months to obtain a DIN.  Anyone who is appointed as a director between 1 November 2021 and 4 April 2022 will have 28 days after their appointment to obtain a DIN.  Then, from 5 April 2022, a person must have a DIN before they can be appointed as a director.

These dates will become important into the future for SMSFs.  Clearly, for any SMSFs that already exist with corporate trustees, the directors of those corporate trustees will need to obtain a DIN by 31 October 2022.  The process to obtain a DIN is expected to be relatively straight forward, and will generally be completed online. 

For SMSFs set up with a corporate trustee from 1 November, for the first six months, it is important to remember that this extra step (the director applying for a DIN) needs to be completed within 28 days of the corporate trustee being established, which may be earlier than 28 days after the SMSF has been established.  Remember, to have a corporate trustee appointed at establishment of the SMSF, the corporate entity will need to be in existence before the trust deed is executed.

More problematic, potentially, will be the position from 5 April 2022, and not necessarily just at establishment of the fund.  Clearly, by that time, the process around establishing an SMSF will be: recommend to clients to get a DIN, establish a corporate trustee, then set up the SMSF.  For clients looking to join an existing SMSF, the client will need to have a DIN before they can apply to become a member.

However, whilst this may all add some extra time to the process, it may not be where the difficulties will be experienced in the future.  Consider the situation where someone is appointed under a power of attorney to assume the trustee responsibilities for a particular SMSF member.  In the future, the attorney will need to have a DIN if the SMSF has a corporate trustee in order to fulfil this power, as they need to be appointed as a director of the corporate trustee.

Moreover, consider the situation where a person has passed away and was a member of an SMSF with a corporate trustee.  Normally, their legal personal representative (LPR) will assume their trustee responsibilities up until such time as any death benefits are paid in order for the SMSF to maintain its complying status.  If the SMSF has a corporate trustee, this means the LPR needs to be appointed as a trustee.  And it will mean the LPR will need to apply for and obtain a DIN before they can be duly appointed.  This can take time, and there may be situations where an LPR does not wish to apply for and obtain a DIN, which could result in issues for the SMSF maintaining its complying status if there are delays in finding an alternative person to be appointed.

Summary

The introduction of the DDO and DIN regimes both come from sound reasoning.  However, they both also demonstrate the difficulties that legislators and regulators often face in trying to design and implement reforms and considering all the potential implications and outcomes.

It is certainly possible for advisers to work with the requirements of both regimes, however as we have seen in the past there can be unintended consequences which may need to be addressed.  Whether or not this occurs for these changes, we will have to wait and see.

But one thing is certain.  With NALI, NALE, BRP, LRBA, LPR, TFN and now DDO and DIN, the world of SMSFs is no longer just about the numbers – it’s also about the letters!

This article was first published in selfmanagedsuper Issue 36 on 11 November 2021