Trustee Loan Repaid Before Year End
A two-member SMSF holds a commercial property and has a member loan liability of $180,000 recorded at 1 July. The trustee drew a further $40,000 from the fund on 3 March to cover a personal tax debt and repaid the full $220,000 on 28 June, two days before year end. The fund's investment strategy has not been updated for three years. The auditor's workpapers show the loan was undocumented, no interest was charged, and the repayment came from the member's sale of a personal vehicle. The fund's cash balance fell to $900 in March, leaving insufficient liquidity to pay the property's insurance premium of $6,400 due in April, which was ultimately paid by the member directly. The fund returned 9.2% for the year against a benchmark of 6.1%.
1. Is the contravention of the lending prohibition curable by the 28 June repayment, and what should the auditor conclude for the year?
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Repayment does not erase the contravention. Section 65 of the SIS Act prohibits a trustee from lending fund money to a member or relative; the breach crystallised when the $220,000 was advanced or, at the latest, when the $40,000 was drawn on 3 March. The repayment on 28 June cures the outstanding balance but not the historical breach, so the auditor must still report the contravention.
However, the auditor should assess whether the breach is reportable as a "contravention" in the audit report to the trustee and whether it meets the ATO's reportable threshold. A breach that has been rectified before year end may still be significant if it involved a substantial amount, was undocumented, and exposed the fund to liquidity risk. Here the fund could not pay a $6,400 premium in April, which is evidence of real financial detriment.
The correct conclusion is that a contravention occurred, it is not extinguished by repayment, and it should be disclosed in the audit report with the rectification noted. The auditor should also consider whether the member's direct payment of the premium was itself an unauthorised contribution or a loan in reverse, which would need separate analysis.
2. What does the undocumented nature of the loan and the missing investment strategy update add to the auditor's assessment?
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Documentation is not a mere formality; it goes to whether the trustee can demonstrate compliance. An undocumented loan means there is no written loan agreement, no terms, no interest rate, and no repayment schedule, which makes it impossible to show the loan was on arm's length terms or that the fund's assets were protected. The auditor should treat this as an aggravating factor when deciding whether the breach is significant enough to report.
The investment strategy is a separate obligation under regulation 4.09 of the SIS Regulations. A strategy that has not been reviewed for three years, in a fund holding a single commercial property and with a member loan, is unlikely to reflect the fund's actual risk profile, liquidity needs, or diversification. The auditor should test whether the strategy addresses liquidity, given the fund's cash position, and whether the trustee considered the concentration risk in one property.
The two issues compound: an undocumented loan alongside a stale strategy suggests weak governance. The auditor should report both, but should be careful to distinguish the s 65 contravention (a strict liability breach) from the regulatory guidance breach on investment strategy, which is assessed on whether the trustee turned its mind to the relevant matters.
3. The fund returned 9.2% against a 6.1% benchmark. How should the auditor treat this in the report?
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Outperformance is not evidence of compliance and must not be used to offset the breaches. The auditor's role is to test compliance with the SIS Act and Regulations, not to judge investment merit. A 9.2% return could have been achieved through concentrated property exposure and the member loan, which are precisely the risks the framework is designed to control.
The auditor should not treat the return as mitigating. Instead, the auditor should consider whether the return is consistent with the fund's stated strategy and whether the trustee can explain the sources of return. If the return was driven by the loan or by a revaluation of the property that was not supported by an independent valuation, the auditor should scrutinise the asset valuation.
The report should focus on the contraventions and the governance weaknesses. Mentioning the return is acceptable only as context for the fund's financial position, not as a reason to downgrade the seriousness of the breaches. The auditor should avoid any implication that strong performance excuses non-compliance.