Bonus Article, Regulatory Roundup September 2019
ATO takes aim at ‘you-scratch-my-back’ auditing arrangements
It has long been an accepted standard that the auditor of an SMSF needs to be independent of that fund, and be a third party entity to the SMSF. This requirement is written into the legislation.
There have of course been breaches of this requirement, and instances where auditors and/or fund trustees have suffered administrative penalties or even disqualification for non-compliance in this area.
The more blatant breaches of the requirement to use a third party auditor involve someone auditing their own SMSF, or the fund of close family members. But another concern for the ATO relates to auditors who enter into arrangements that reflect that old idiom “you scratch my back, I’ll scratch yours”. The ATO has labelled these as reciprocal auditing arrangements.
It says that such arrangements arise where two or more auditors, each with their own SMSF, agree to audit the other’s fund. The ATO likens the situation to the scenario of a two-partner practice where one partner takes on the work of auditing an SMSF of which the other partner is trustee.
In the view of both the ATO and ASIC, there is no realistic safeguard available for these very cosy arrangements, and no other way to view them than being non-independent.
But the ATO has also identified another form of a reciprocal arrangement that it is taking active steps to closely scrutinise. This is where there can be two accounting practitioners who are also SMSF auditors. They each offer services and prepare the accounts for a number of SMSF clients, and come to an understanding that each will audit the funds that are on the other one’s books.
The concern the ATO has (and ASIC agrees with it) is the threat to independence from these reciprocal arrangements. The ATO says the problems that can arise include:
- self-interest – an SMSF auditor may be influenced to vary their audit opinion or not report a contravention if they perceive this will influence the outcome of the audit on their own fund or if they fear a potential loss of business as a result
- familiarity – an SMSF auditor having a close relationship with, or a high regard for, the other auditor may be influenced to ignore certain issues or to undertake a cursory and inadequate SMSF audit
- intimidation – the other auditor’s knowledge or their industry contacts may influence the auditor to not report certain issues and to apply less scrutiny to the audit.
The ATO has indicated that approved SMSF auditors who continue to engage in reciprocal auditing arrangements will be subject to increased scrutiny. It warns that referral to ASIC may result if it considers SMSF auditors have failed to meet independence requirements.
SMSF auditor number identifiers found to have been misused
An initiative launched by the ATO before June this year involved a mass mail-out to SMSF auditors that listed the funds that had reported each auditor’s SAN (SMSF auditor number) on the fund’s previous year annual return.
Each auditor was asked to verify that they had indeed conducted an audit of the funds listed in the ATO’s letter.
About half of the 5,446 auditors contacted in the initial mail-out replied. Their responses indicated that a significant proportion of SMSF annual returns misrepresented their audit compliance through the misuse of SANs, with 1,445 instances uncovered.
The number of auditors who were able to confirm SAN misuse totalled 420, with the un-confirmed involvement of 626 tax agents. So far the ATO says it has not been able to determine if SAN misuse had been deliberate or inadvertent, but has stated that the results of its enquiries suggest that SAN misuse is more common than imagined.
Its fear is that deliberate reporting of an incorrect SAN may be used to conceal a fund from meeting its annual audit requirements, which means that the ATO has no assurance that trustees are complying with income tax and other regulatory obligations and that members retirement benefits may be at risk.
It says that behaviours of serious concern include:
- some practitioners fraudulently charging clients for audits that have not occurred
- the preparation of false independent audit reports (IARs) with forged auditor signatures
- the lodgment of annual returns before finalisation of the annual financial and compliance audit of an SMSF’s operations.
The ATO plans a further mail-out after the next SMSF tax return season that will give SMSF auditors an opportunity to review the list of funds that reported their SAN on current year returns and to take action if required.
When retrospective legislation bites, what is the ATO’s approach?
It is not uncommon for taxation measures to be enacted with retrospective operation — that is, the tax law changes take affect for a period before the date of enactment, once the legislation is passed.
Indeed, budget measures often commence from the date of the budget announcement, rather than the date of enactment. Retrospective tax legislation refers to past actions, but imposes an obligation to pay tax in the present.
For example, legislation came into law in the last half of 2017 that made a reality of a measure first proposed in the May 2017 Federal Budget. The “housing tax integrity” bill denies all travel deductions relating to inspecting, maintaining, or collecting rent for a residential investment property.
But this measure was introduced retrospectively — it became law at the end of 2017 but applies from July 1, 2017. In other words, this measure affected the entire 2017-18 income year, even though the change was made halfway through that financial year.
Retrospective legislation poses a dilemma for affected taxpayers. Should they follow the existing law or anticipate the proposed change?
The ATO says it will try to provide practical guidance for taxpayers faced with this question, and will usually state its administrative approach to particular retrospective law changes, especially (as much as possible) in the period when the change is no more than a proposal.
ATO guidance covers the options available to taxpayers and the consequences of choosing particular options, but also looks at how the ATO will administer the law during the period until the final outcome of a proposed law change is known. If no guidance is forthcoming, this can certainly be sought.
In determining what you should do when faced with proposed retrospective legislation, you will need to consider whether the proposed law may increase your liabilities or decrease them.
Changes that increase liabilities
If a proposed law change would increase your liabilities, the ATO has no authority to collect the new, or higher, liabilities until the relevant law is enacted or the legislative instrument is made.
You can self-assess your tax liability under the existing law, but if the law is ultimately changed retrospectively, you may need to seek an amendment (we can help you with this) and pay the increased liability. In the interim, it may be wiser (if possible) to make provision for these expected liabilities.
The ATO’s advice has always been that taxpayers should self-assess under the existing law. But, in these circumstances, it is also generally pointed out that there could be consequences if the law is ultimately changed retrospectively and taxpayers have previously self-assessed under the tax law as it existed at that time.
The ATO generally doesn’t advise taxpayers to self-assess by anticipating the announced change will become law, but if taxpayers choose to do so, the ATO has stated that it won’t apply its resources to checking whether these self-assessments are correct (in accordance with the existing law). It says that this would be an inefficient use of its resources.
Generally its advice will also deal with the interest and penalty consequences for taxpayers who have to amend or vary liabilities following a retrospective law change.
Changes that reduce liabilities
If a proposed law change would reduce your liabilities, generally the advice would also be that you should self-assess under the existing law. If the choice is made to self-assess by anticipating an announced law change, the ATO says it may not enforce compliance with the existing law. However, it will act to prevent incorrect refunds.
The ATO advises taxpayers faced with self-assessing a liability that may eventually be affected by an announced, retrospective, law change to apply the existing law when self-assessing. This is because naturally the ATO cannot advice taxpayers to ignore the tax law as it stands. However it does have a little wriggle room in that the rules generally allow it to accept taxpayers’ self-assessments.
The one exception to this general rule applies if both the following conditions are met:
- allowing taxpayers to anticipate an announced law change would be likely, in some cases at least, to result in a refund of tax
- the Commissioner can, before a payment is made, reasonably identify particular taxpayers to whom a payment would be made who have applied the law incorrectly.
In these circumstances, the ATO is required to do whatever it can, within reasonable bounds, to stop payment of the incorrect refunds.